European High Yield 2020 - Key Trends and Observations (Part 1)
|Nov 24, 2020|
Note: This is Part 1 of a longer form analysis on the European HY market YTD which was published to 9fin subscribers last week.
Too Long Didn’t Read
Issuance volumes (excl. USD) in HY totalled around €80bn year-to-date
Average deal sizes are getting larger (+€100m vs. 2018), with a slight decrease in tenor
More double BB-rated issues, with fewer single B and triple CCC deals
We’ve tracked near record high volumes of HY debt this year, with issuance totalling around €80bn up to the week ending 13-Nov (excl. USD offerings). In spite of the lengthy shadow cast by Coronavirus - which led to a 46 day issuance hiatus in March to April - firms were keen to print when they could, flooding the market either side of the interruption, and the more traditional August holiday break.
Unlike during typical recessions, issuance rates rallied strongly around this year's break periods - where declining revenues pressured firms to strengthen balance sheets. A remarkable tightening of spreads also drove issuance, allowing for competitive and opportunistic refinancing (EHY OAS blew out to 860+ bps in March, before returning to trend at around 450 bps in August-October, tightening further to around 400 bps currently - but still higher than the 300 bps seen pre-crash).
In turn, lower rates and built up ‘dry powder’ led to a search for yield, increasing demand for HY, a trend boosted by several fallen angels which continue to attract demand from IG accounts, Marks & Spencer being a good example. Central bank action proved highly supportive in 2020. Research by the ECB suggests the Jun-16 to Dec-18 corporate sector purchase programme (CSPP) lowered both IG, and non-eligible HY yields, with investors encouraged to shift investments towards riskier bonds. The Nov-19 resumption of the CSPP, and an April rule change to include new fallen angels in repo criteria was seen as a signal of future intentions to purchase these instruments outright - although this buying is yet to materialise.
HY Fund flows to 10-Nov were down -9.24% this year (ETF -€942m / Intermediate or Long Term -€1,116m / Short Term -€1,632m (Credit Suisse)). The presence of strong issuance volumes despite HY fund outflows is suggestive of a higher proportion of non-HY buyers. Perhaps IG tourists looking for yield boosters, non-dedicated funds, and even CLOs.
There was no shortage of innovation - the most interesting of which we’ve charted below (link: Full Size).
Use of Proceeds
Spreads dropped from their peak in March-April, and continued to tighten since, enabling some of the more opportunistic issuers to enter the market and push out maturities on acceptable terms during the latter half of the year. As such, refinancing transactions made up nearly 70% of this year's issuance by volume.
Here we have taken the use of proceeds to be ‘Refinancing’ where the deal states any portion of the transaction will be used for that purpose.
Comparing YTD issuance , we see that on average deals are getting larger - almost +€70m versus 2017, +€100m versus 2018, and +€20m versus 2019 - with the results not skewed by larger singular deals. This corresponds to a slight decrease in average tenor, which dropped to around six-years in 2020. The implication is that firms are locking in pricing at the shorter end of the curve, as market disturbance pushed spreads wider, despite rock bottom interest rates.
Over the comparison period (2017-20) we can see a broad trend of more double BB issuance, with fewer single B and triple CCC deals. The trend is most clear on a deal count basis (Figure 5), which shows that despite a bumper 2018 for single B names, double BBs continued to make up the lion's share of issuance since 2017.
A wave of downgrades pushed many former IG names into the European HY space this year. In September, S&P noted that globally, 34 new companies entered HY in 2020, the third highest on record - chasing the 2009 peak of 57.
Fitch reported on 28-Oct that EHY saw €80bn of fallen angel volumes enter the market since Mar-2020. At 9fin, we’ve tracked at least nine newly downgraded names, printing almost €9bn in fresh Euro or Sterling notes to date. The largest offerings came from Renault (€1bn 2.375% SUNs due 2026), INWIT (€1bn 1.875% SUNs due 2026, €750m 1.625% SUNs due 2028) and Ford (€850m 1.744% SUNs due 2024, €750m 3.25% SUNs due 2025).
In a report published on Wednesday (18-Nov), Fitch states that of the 85 North American and European IG borrowers downgraded in the period 2006-2019, around half regained their IG status, with just 13% falling all the way through to default. It appears higher ratings before hitting fallen angel status are not correlated with a higher chance of return to IG, and those names driven down by long-term industry decline and loss of competitive positioning are more likely to default than return to IG.
However, to date, secondary performance has been strong for most of our new names, with Carnival’s €425m 2nd Lien’s showing the standout gain - now trading around 114.
At close of business Wednesday (18-Nov), the average double BB was trading at 101.8, single B at 92.7, and triple CCC at 91.4.
In Part 2 we will take a closer look at trends in security, spread divergence and the impact of Covid-19 on the floating rate market across both bonds & loans.