Merrill Sells Most Defaulted Principal Among Bulge Bracket Dealers

Since 2001 Merrill Lynch has underwritten the highest percentage of global high-yield principal to have defaulted among bulge bracket underwriters. Merrill takes the ignominious honor of having just under 4% default of the over $17 billion in speculative-grade bonds it has brought to market in recent years. The study tracks global high-yield issuance and defaults and ranks underwriters based on the deals they managed or co-managed. CIBC World Markets and Jefferies & Co. topped the charts at just under 4.94% and 4.6% respectively, but CIBC only brought roughly $3.5 billion and Jefferies $5.2 billion over the past few years. The smaller shops are also known for bringing riskier credits that might not be distributed by bulge bracket dealers. The numbers are generated from global high-yield issuance and related underwriter involvement figures from Thomson Financial and default data from Moody’s Investors Service. Dealers are given full discredit for deals on which they acted as a co-manager.

The global data encompasses all high-yield deals sold in the U.S. and Europe. However, the separate U.S. and European findings are sorted based on the locale of the issuer and not the currency issued. All totals for principal amounts and defaults are based on dollar-denominated figures supplied by Thomson Financial.

Default Rates Down

While roughly 4% of Merrill’s global high-yield principal defaulted, it is worth noting defaults are down sharply across the board. Last year, when Merrill also finished in first place, (read: last) as the underwriter responsible for selling the greatest percent of principal that subsequently defaulted, its figure was more than 17.5% and the drastically lower totals this year are driven by an improving global macroeconomic push, favorable interest rates and tighter corporate governance controls. These factors have all made for a much healthier global credit environment and in turn, shrinking default rates.

Merrill also led the largest percentage of defaulted principal in Europe at 7%. Both globally and within the U.S., Jefferies & Co. brought the highest percentage of defaulted deals at 4.5%, although Jefferies’ position is largely to be expected since it is well-known for bringing small capitalization, triple-C companies to market and it compensates investors with higher yields for taking on the increased risk.

Moody’s calculated the global default rate at 2.4% for October and anticipates it will drop to 2.3% again by year-end, bottoming out sometime next year.

The Culprits

A flop for Trump Hotels & Casino Resorts ratcheted up totals for Credit Suisse First Boston, Deutsche Bank and UBS. In addition to the Trump deal, Deutsche Bank led bad eggs for Fleming Companies and Intermet Corp. “Fleming was just a disaster, between a combination of fraud and the loss of a big customer,” said an investor, referring to the supermarket consumer packaged goods supplier’s default. He noted “there’s always an agenda with Deutsche Bank; they have ties to certain sponsors and their default rate reflects their desire to deliver for their sponsors.” But he added, in fairness to Deutsche Bank, the bank does attempt a lot of rescue financings and more aggressive deals overall.

Another high-yield manager countered Deutsche Bank is a pretty solid shop, by calling its ranking “episodic” and said it merely is a reflection of involvement in isolated events such as Intermet.

A spokeswoman for Merrill in London declined comment. Ted Meyer, spokesman for Deutsche Bank, also declined comment.

EuroTrash

Like in the U.S. market, Europe has been characterized by a prolonged period of low defaults. The low number of defaults is particularly significant given the European high-yield market is still in a relatively nascent stage relative to the U.S. market. Just four deals—out of 247—have defaulted since 2001 and Citigroup, Credit Suisse First Boston, and Merrill Lynch each had one sole manager discredit to their name, with the fourth deal a joint effort between Citi and Merrill. That being said, CSFB and Citi rank second and third, respectively, in the number of deals brought to market. Merrill, however, underwrote less than one third as many deals as CSFB yet managed to sell two rotten apples.

The defaults were spread across Continental Europe but were concentrated in the cable sector, and included the Netherlands’ KPN Qwest, Spain’s ONO Finance and Germany’s eKabel Hessen and Callahan Nordrhein-Westfalen.