C.M.O. 2.3.2010
Credit Market Overview
February 3, 2010
As we move further and further away from the near apocalypse last March there seems to be an even more intense need by the prognosticators to divine the next move in the economy and hence, the markets.
Many of the guests appearing on the various business channels were looking for another leg down in the stock market last year and took a media vacation when that didn’t come about. They resurfaced recently with forecasts for 2010 full of warnings of double dips and cyclical bulls surviving amongst soon to pounce secular bears.
If there were mistakes made by investors last year they were probably more on the side of not participating fully due to not believing what the eyes were seeing. Ashish Shah, co-head of credit strategy at Barclays Capital, described the events of 2009 saying, “The past 12 months were off the charts, you clearly, mathematically, can’t repeat that”. This is true only in that at roughly 600bps off of the Treasury curve, there aren’t 1500bps left to narrow for high yield paper.
So without the benefit of a credit curve stretched to the extreme, where can we get clues as to what is actually happening vs. what the doom, gloom and ka-boomers are barking at us through the box.
One clue can be had from Carol Levenson at Gimmie Credit when she said, “The dark days when companies were saying ‘Oh my God how can I roll over my debt?’ are no longer here”, adding, “All investors – both equity investors and bond investors – should be pleased with the stabilization trend to the extent it’s been under management’s control.”
Part of the “control” Carol speaks of is the reduction in share buybacks, cutting of dividends, canceling capital spending and retreating from major acquisitions that occurred in 2008 and most of 2009. All of these helped put money in the cookie jar when folks were not certain there was going to be a bank left standing in which to make a deposit.
The result of all of this has created a new and possibly happier problem, too much cash lying around. How much you ask? Citigroup analysts think that nonfinancial companies are holding about $290BN more cash now than they were at the end of 2007.
Given the events of the past two years it’s not a stretch to think that sitting on a pile of cash would be a very comfortable thing for a corporate treasurer. There would be no need to access a frozen commercial paper market or draw down credit lines at the bank which the bank was reducing quicker than Jared on a diet of $5 foot longs.
Every solution in this crisis has seemed to create its own problem and the cash hoard is no different. A lot of cash on a balance sheet is like a campsite to a grizzly bear; too much opportunity to pass up. The grizzlies in this case are the hedge funds and private equity firms that learned in the late stages of the bubble run that what makes for a financially stable company with lots of cash lying around also makes for an opportunity to buy the firm replace the cash with debt and pay yourself upfront for your efforts.
That this mindset is coming back is actually healthy in a perverse sort of way as the hedgies and PE folks are always going to do what they do because, uh well, that’s what they do. The fact that the environment (remember they do have to issue debt to replace the cash, so there has to be a buyer for the debt.) is once again allowing them to do what they do is the perversely healthy part.
The remedy from the corporation’s standpoint is to do something with the cash. With capacity utilization languishing around the 70% level there doesn’t seem to be much use for anything built with bricks and mortar. Buying your competitor could make some sense if those ever elusive “synergies” could be conjured and it appears that the 90% QoQ rise in 4Q09 in global M&A, according to Mergermarket, is evidence that that is a choice many are making.
The other way companies seem to be reducing cash on hand is to change that cash for their own stock. Buybacks dropped from $597.8BN in 2007 to $89.7BN in 2009, according to Birinyi Associates, but with $290BN in incremental cash lying around there might be some room to increase this activity over last year’s paltry levels. If there is any doubt as to what this can do for a company’s shares, it should also be noted that buybacks accounted for 1/3rd of the growth in earnings per share from 2003 to 2008 according to analysts at Citigroup.
Back from the abyss and possibly up to old tricks. It would seem as if actions are once again speaking louder than words.
Enjoy the week.
Jim Delaney
