The high yield bond market has been little short of rampant this year. But suddenly it is looking battered and bruised. The Markit iTraxx Crossover has widened by around 100bp since comments from Federal Reserve chairman Ben Bernanke in late May that hinted at a possible reduction of quantitative easing in the US — provided the economy recovered sufficiently.
Investors, particularly the hot money, are jumping ship, driving huge flows out of high yield bond funds. A net €669m has left European funds over the past two weeks. If that looked hefty, it was nothing compared to the exodus from the mighty US market, where a staggering $7.8bn has streamed out.
In Europe, bankers have postponed a deal for Unilabs. Others have been priced, but with higher coupons. For all the talk of maturity, the region's high yield market is still the high tension and cyclical asset class that it always has been.
There is a silver lining, though. Plenty of folk reckon new issues in the European high yield market have been too tightly priced, leaving little, if any, upside for investors. And although they have continued to pile into deals, investors have noted with some alarm an erosion of covenants. Portable bonds have become more prevalent too, allowing owners of a business to sell it on without having to offer the traditional change of control put at 101. And dividend recaps have crept back onto the agenda.
The sell-off might, therefore, provide a useful pause for thought. Rather than abandon the asset class in panic, investors could take the opportunity to push for decent new issue premiums. And they could dismiss those transactions where leverage is too high or the documentation too loose. The upshot, therefore, might be more comprehensive covenants and better credit quality.
As the fast money scurries away, the buyer base is shifting towards traditional long-only pension accounts and insurers. And provided not too many of those decide to jump ship, that change should allow new deals to trade better.
For the moment, banks seem to be showing more guts than they have in high yield wobbles of previous years. Two new issues — for UK repeat issuer InterXion and Greek(!) debutant(!) Intralot — are in the market this week, while the AA's whole business securitization is wooing high yield investors for its B tranche. So long as the core investor base holds its nerve, this market could emerge from the latest crisis in better shape than before.
