Corporate credit: A buyer’s market

"The real issue around banks is about capacity. Banks will be wary of being sucked into too may large financings too regularly" John Mayne, JP Morgan Cazenove

The European market suffered from a more faltering start to the prolonged summer break. At first it looked as if AstraZeneca’s seven-year €750 million deal had revived the European corporate sector but the travails of Northern Rock put Europe flat out on its back – until the Federal Reserve’s rate cut, that is.

A return to roadshows

"There are windows of opportunity – this trade shows that if you do it well deals can get done," says Jean Marc Mercier, euro syndicate head at HSBC, one of the lead managers alongside Citi and Deutsche Bank. "It means doing a roadshow to meet the important clients, and getting a real book built. It’s not like the old days when anything flies out of the window."

Although the Fed’s 50 basis point cut lifted the mood on both sides of the Atlantic, investors are still firmly in control and the strategies of issuers and their lead managers over financing need to reflect that.

In the US, Tyco Electronics printed $1.5 billion in five-, 10- and 30-year maturities via Goldman Sachs and UBS, having postponed a deal in July. This followed in the wake of a series of notable bond deals from such household names as Johnson & Johnson, Starbucks and Wal-Mart. There were others, especially banks and brokers that were quick to draw on the market’s liquidity. On the other side of the pond, aside from AstraZeneca, BASF and E.On were also able to get sizeable euro prints away. Tentative moves came also from Europe’s banks – in subordinated and covered bonds.

"Right now we are seeing the markets are pretty robust in the high-grade arena, whether that is corporate or FIG in primary. Deals came pretty quickly after the Fed’s rate cut," says John Mayne, head of debt capital markets at JPMorgan Cazenove.

These signs of good health do not alter the fact that the sector has undergone a dramatic change in mood as well as circumstances.

"It is still a buyer’s market – hence these clients have got to come at a concession to where they thought they would have a couple of months back. We are seeing deals coming consistently with 20 to 30 basis points negative basis to CDS. That gap is starting to narrow a little bit but it is still a good guide to relative value," says Mayne.

These substantial pricing concessions to credit default swaps are now the norm. But as Eirik Winter, co-head of European fixed-income capital markets at Citi, says, although credit spreads have widened, once the rally in underlying government bonds is accounted for, fixed-rate borrowers have not seen a substantial deterioration in the terms of financings. It was this focus on absolute rates that persuaded so many household names to print dollar deals that look expensive from a spread perspective.

Furthermore, Winter says: "Credit might look expensive but it isn’t that expensive from a historical perspective. Average credit spreads between 1999 and 2003 were much higher than currently, people tend to have selective memories."

And there is lot of liquidity available – bankers insist that a range of investor types are flush but sitting on their hands. What has not been seen yet is that investment-grade primary market liquidity is flowing through to the hung leveraged loan bridges on investment banks’ books.

A bond silver lining

So will the silver lining for investment banks be that the volatility scares or forces corporates into relying on bonds rather than CP and bank facilities? The answer lies in whether there is a permanent repricing of credit – either in capital or bank markets.

"I think that the high-grade loan market for relationships deals is going to be pretty aggressive for clients: with a couple of caveats. For your standard revolving credit facility (RCF), issue is going to be about scale. It’s a remarkably sticky marketplace – you are obviously not going to see the market get any tighter than today but we might see spreads widen slightly. The real issue around banks is about capacity. Banks will be wary of being sucked into too may large financings too regularly, especially if they are actually run of the mill," says Mayne.

It is clear that there is a risk of a capacity issue in the loan market. Although industrial companies, which have strong balance sheets, might want to be more aggressive in M&A – especially now that financial sponsors are largely sidelined – only a limited number of banks will be willing and able to provide credit.