The bubble is back.
If you hadn’t already figured that out, that’s the lesson from The Wall Street Journal’s excellent story this morning on how investors are flooding junk bonds as if the last two-and-a-half years hadn’t happened.
Back in the 2004-2007 era, there was so much money sloshing around the world that investors flooded into risky investments like subprime mortgages, junk bonds, and cov-lite commercial real estate loans in a desperate bid for any kind of return. That loosened lending standards and gave a whole lot of money to a whole lot of undeserving borrowers, like condo speculators, dividend-self-paying private-equity firms, and Sam Zell.
Now, despite the fact that one in nine junk bonds went bust last year that market is back in a big way:
In all, companies raised $11.7 billion last week in the high-yield bond market, the biggest in history, according to Thomson Reuters.
The previous record: $11.4 billion, set at the apex of the mid-decade credit boom in November 2006.
A nit: Last week’s was only the biggest in history in nominal terms (not including inflation). That $11.4 billion in 2006 dollars is $12.1 billion in 2009 dollars.
But it’s close enough to bubble-era peak junk-bond lending to be worrisome, and good for the Journal for flagging it. Who’s getting the money? Companies like this:
In March 2009, Hexion Specialty Chemicals Inc. said it planned to cut about 15% of its work force after posting a $921 million loss. That came after Standard & Poor’s lowered its ratings on the Apollo Global Management LP-owned company, citing a risk that it would violate the covenant on its credit facilities.
On Thursday it sold $1 billion in high-yield bonds paying investors 9% interest. Investor demand was so large the company raised $300 million more than it had targeted.
If a company violates the covenant on its credit facilities, it puts it in technical default. Would you lend money at 9 percent interest to a deteriorating company like that?
Even worse, it’s clear that investors haven’t learned much from their near-death experience. This is a result of the bailouts. These junk-bond issuers aren’t companies that are likely to be bailed out by the federal government if and when the crisis goes on another jag. But they’re benefiting big-time from the bailout efforts of the government, whether through the near-trillion-dollar stimulus, as well as the various federal interventions in the markets to guarantee debt like that issued by Fannie and Freddie or the Fed’s printing of money, or the debt issued by Wall Street under the Temporary Liquidity Guarantee Program. That drives down what the banks have to pay to borrow money, which not only helps them pay their bankers taxpayer-subsidized million-dollar bonuses, but puts pressure on interest rates across the board. This doesn’t mean the bailouts weren’t necessary, it’s just an unintended consequence of them.
And it’s somewhat possible that it could be a beneficial one. If the economy really does recover at a good clip, this money, which is going toward refinancing more-expensive debt (although investors are helping private-equity borrow money to pay themselves dividends again. Yikes), may help these companies get to the other side. But I wouldn’t bet on a rip-roaring recovery—at least one fueled on fundamentals and not another debt binge:
Some Wall Street deal makers say the current high-yield bonanza only delays the day of reckoning. With more than $1 trillion of corporate debt maturing prior to 2015, the recent new debt deals are “the ultimate Hail Mary passes,” said Barry Ridings, the vice chairman of U.S. investment banking at Lazard Freres & Co.
And we know what happens to 99 percent of Hail Mary passes.