Risky Borrowers Discover Doors Are Closing in Bond, Loan Markets

Bond

Summary:

The turmoil in global markets is threatening to end a summer debt boom that helped some of the riskiest US companies cut borrowing costs...

The turmoil in global markets is threatening to end a summer debt boom that helped some of the riskiest US companies cut borrowing costs, push out maturities and even defer interest payments.

The change in tone was obvious on Monday, when SeaWorld Parks & Entertainment Inc shelved its planned refinancing of a US$1.55 billion (RM6.9 billion) term loan, while SBA Communications Corp postponed the repricing of a US$2.3 billion term loan. On Tuesday a US$3.65 billion package for Focus Financial Partners was delayed, and market participants expect more lower rated deals will be pulled.

In other signs that a period of accommodation by investors is passing, the risk premium on junk-rated corporate bonds spiked to the highest since November 2023, and prices on leveraged loans dipped to the lowest level this year on Monday.

It's a dramatic turnaround from earlier this year, during which borrowers reworking debt to obtain better terms saved more than US$1.4 billion in annual interest expenses from the beginning of 2024 through May. The tipping point was Friday's US jobs report, which implied that hiring is waning faster than previously expected, raising recession concerns and increasing pressure on the Federal Reserve to accelerate expected interest-rate cuts.

"For highly levered companies, investors will weigh the magnitude of lower interest rates on cash flow against a reduction in earnings in a slowing economy,” said Scott Macklin, head of US leveraged finance at Obra Capital Inc. "That calculus on the net impact could be positive for less cyclical borrowers and negative for more cyclical borrowers.”

Fading loans

The shift in sentiment is stark in the leveraged loan market. Only a couple of weeks ago, collateralised loan obligation managers — the biggest buyers of the debt — were wide open to transactions and struggling to find new assets to purchase.

Now, retail investors are fleeing. The Invesco Senior Loan exchange traded fund on Aug 2 saw withdrawals of almost US$490 million, reducing assets to US$7.69 billion, the lowest level since May 6, according to data compiled by Bloomberg.

Funds that invest in leveraged loans are on track to suffer their biggest weekly outflows since March 2023's regional banking crisis. Withdrawals from Aug 1-5 were an estimated US$1.44 billion, including a combined US$682 million for actively managed funds and exchange-traded funds, according to JPMorgan Chase & Co's Nelson Jantzen.

The leveraged loan market had already seen softness in recent weeks as some new deals traded below where they priced, said Jeremy Burton, a portfolio manager at PineBridge Investments, in an interview.

"We're going to see repricings stop,” Burton said. "Anything that hasn't come is going to be on pause.”

Junk declines

The transformation means that the junk bond market for the remainder of this year is likely to be even more challenging for risky deals such as those from Herbalife Ltd or Staples Inc, which got done albeit at wider prices. In one extreme case, a Platinum Equity-backed company completed a rare payment-in-kind toggle note offering, the first seen since 2021.

An investor move into high-yield debt was based on the expectation that a drop in rates would boost bond prices, but concerns about the economy instead caused spreads to substantially widen and led to a selloff, said Grant Nachman, founder and chief executive officer at Shorecliff Asset Management.

"People got excited about high-yield last month because of excitement around interest rate cuts, but when you have spreads blow out, it's another story,” he said. "The lower quality corners of the high-yield market start trading a lot more like equities, as opposed to higher quality bonds that tend to respond positively to falling rates.”

A prolonged shutdown in new issuance markets not only would make it tougher for lower rated businesses to refinance, but also would exacerbate any economic downturn, something that the Fed will monitor closely.

In addition, borrowers likely would turn to the private markets, where many firms have found willing lenders in the past. Again, the Fed would be on the lookout for firms having difficulty refinancing their commitments, increasing the pool of distressed debt that had been shrinking for months and raising the chances of ratings downgrades and price spirals.

"If this volatility continues, earnings misses will be unforgivable,” said Lauren Basmadjian, global head of liquid credit at Carlyle Group. "You'll see more drastic price movements in loans to borrowers who disappoint.”

Source: Bloomberg

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Daily News

[Quick Facts]

1. A U.S. official says it's still uncertain when Iran will attack Israel.

2. German industry will still face a downturn in Q3.

3. Harris officially secures Democratic nomination for president.

4. EIA lowers Brent oil price forecasts for this year and next.

5. Lebanon's Hezbollah launches an attack on Israel.

[News Details]

A U.S. official says it's still uncertain when Iran will attack Israel

Attention is focused on when Iran will launch attacks against Israel over the killing of Hamas leader Ismail Haniyeh in Tehran. Israeli media reported on August 6, citing a U.S. official, that it is still unclear when Iran will launch a strike.

U.S. President Joe Biden and Vice President Kamala Harris were told by their national security team that it is still unclear when Iran and Hezbollah are likely to launch an attack against Israel, reported by the Times of Israel on August 6, citing a U.S. official. Biden and Harris were also told that there is little information available regarding "the specifics of such an attack."

German industry will still face a downturn in Q3

Claus Vistesen, chief Eurozone economist at Pantheon Macroeconomics, said in a report that the relief to German industry from a 3.9% rise in factory orders in June may be short-lived. He noted that factory orders fell 1.3% in the second quarter from a quarter earlier, which was much better than the 4.4% decline in the first quarter but still poor overall. Looking ahead, the 9.2% surge in capital goods orders in June will be followed by mean reversion in July, leading to a decline in new orders in next month's report. Moreover, consistent with the signals from the survey, the downturn in the coming months will continue to weigh on production.

Harris officially secures Democratic nomination for president

U.S. Vice President Kamala Harris announced at a rally in Philadelphia that she is officially running for president as the Democratic candidate. Last week, Democratic members held a virtual roll call vote to nominate Harris, and she secured the necessary votes by Friday. Harris has chosen Minnesota Governor Tim Walz as her vice-presidential running mate. The Democratic National Convention will be held on August 19.

EIA lowers Brent oil price forecasts for this year and next

The U.S. Energy Information Administration (EIA) lowered its Brent oil price forecasts for 2024 and 2025 in its latest Short-Term Energy Outlook report, citing that the recent drop in oil prices has been driven by economic concerns. But it expects oil prices to rebound in the coming months. The EIA expects the price of Brent crude to be $84 per barrel in 2024, down from its previous forecast of $86. In addition, the EIA expects the U.S. GDP to grow at a rate of 2.4% in 2024 while lowering the 2025 growth forecast to 1.6% from 1.8%.

Lebanon's Hezbollah launches an attack on Israel

On August 6, a series of rocket and suspected drone infiltration alerts were heard in several northern Israeli towns, including Acre. Hezbollah soon claimed responsibility for a drone attack on an Israeli command center at the Shraga Camp in the Acre area, resulting in casualties. The Israeli military confirmed that six soldiers were injured in the attack. Following the incident, a total of 19 people were taken to local hospitals for treatment.

[Today's Focus]

UTC+8 10:00 China, Mainland Trade Balance (Jul)

UTC+8 22:30 U.S. EIA Weekly Crude Stocks

UTC+8 01:30 Bank of Canada Summary of Deliberations

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Samantha Luan

Cryptocurrency

The sentiment towards the cryptocurrency industry in the United States evolved significantly within the political landscape and the SEC. Initially viewed with skepticism, digital currencies are now gaining traction and legitimacy.

Early Skepticism and Regulation

Early associations of cryptocurrencies with illicit activities and financial instability, such as those seen with the Silk Road marketplace and the Mt. Gox exchange collapse, led to a cautious approach from US regulators. Under SEC Chairman Jay Clayton (2017-2020), the Commission treated many ICOs as unregistered securities, which resulted in numerous enforcement actions and created a challenging environment for cryptocurrency businesses.

Shifting Political Sentiment

Recent years have seen a shift in political sentiment due to several factors:

Mainstream Adoption: Companies like Tesla, Square, and PayPal adopting digital assets have enhanced their legitimacy.

Technological Innovation: Blockchain technology's potential beyond digital currencies has been recognized in areas like supply chain management and decentralized finance (DeFi).

Global Competition: The rise of central bank digital currencies (CBDCs) in countries like China has prompted US lawmakers to consider the strategic implications of digital currencies.

Public and Political Support: Politicians like Senator Cynthia Lummis (R-WY) and Representative Tom Emmer (R-MN) actively promote favorable cryptocurrency legislation.

The SEC's Evolving Stance

Under Gary Gensler's leadership since April 2021, the SEC has taken a nuanced approach:

Clearer Regulations: Emphasizing the need for regulatory clarity, particularly around cryptocurrency classification as securities.

Enforcement and Oversight: Continuing enforcement actions against fraudulent activities while fostering a more predictable regulatory environment.

Focus on Investor Protection: Highlighting robust disclosure requirements and measures to prevent market manipulation.

Legislative Developments

Several legislative moves reflect the changing sentiment:

Infrastructure Bill: The $1.2 trillion bill passed in November 2021 included cryptocurrency tax reporting provisions, recognizing cryptocurrencies as part of the broader financial system.

Proposed Legislation: Bills like the "Digital Commodity Exchange Act" aim to establish clearer regulatory frameworks.

Central Bank Digital Currency (CBDC): The Federal Reserve is exploring a digital dollar to combine cryptocurrency benefits with financial stability.

Conclusion

The evolving sentiment towards the cryptocurrency industry within the US political landscape and the SEC marks a maturation of understanding and approach. Early skepticism is giving way to a more balanced perspective, driven by mainstream adoption, technological innovation, and strategic considerations. Ongoing dialogue among policymakers, regulators, and industry stakeholders will shape a sustainable and innovative future for cryptocurrencies in the United States.

Source:TheStreet

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Kevin Du

Energy

U.S. oil and gas production show further signs of flattening out or turning down, a delayed response to the decline in prices over the last two years after the initial shock caused by Russia's invasion of Ukraine in early 2022.

Total crude and condensates production from the Lower 48 states, excluding federal waters in the Gulf of Mexico, averaged 11.0 million barrels per day (b/d) in May up from 10.6 million b/d in the same month a year earlier.

The seasonal increase was the smallest since the first wave of the coronavirus pandemic in 2020 and before that the aftermath of the volume war fought between U.S. shale producers and Saudi Arabia in the mid-2010s.

Production growth compared with the prior year slowed to just 0.4 million b/d from as much as 0.8 million to 1.0 million b/d in early in 2023, according to data from the U.S. Energy Information Administration (EIA).

Drilling activity typically responds to a change in prices with a delay of 4-5 months reflecting the time needed to contract rigs, move them to the drilling site, set up the equipment and start boring.

Production typically responds with an additional lag of 7-8 months reflecting the time needed to hydraulically fracture and complete wells, connect them to the pipeline gathering system and start commercial oil flows.

So the current slowdown in both drilling rates and deceleration in production growth reflects the decline in oil prices from their peak in the middle of 2022 and especially since the middle of 2023.

After adjusting for inflation, front-month U.S. crude futures prices have fallen to average of $74 per barrel so far in August 2024 from $84 in August 2023 and a high of $124 in June 2022.

In real terms, prices have retreated to only the 44th percentile for all months since the turn of the century from the 82nd percentile just over two years ago.

Lower prices have removed much of the incentive to increase output and encouraged exploration and production firms to focus on improving efficiency instead.

The number of rigs drilling for oil averaged just 479 in July 2024 down from 534 a year earlier and a peak of 623 in December 2022.

Over the same period, the number of rigs drilling primarily for gas has declined even more sharply, reducing growth in condensates recovered from gas wells.

As a result, lower prices and slower growth in U.S. shale production have created conditions for Saudi Arabia and its OPEC⁺ allies to increase their own output by rescinding previous cuts and regain some market share.

Instead, however, prices have tumbled even further recently, as traders become increasingly concerned about an economic slowdown in the major economies and associated deceleration in oil consumption growth.

If the consumption slowdown fails to materialise, however, the deceleration in shale production has created conditions for OPEC⁺ to enjoy some combination of higher production and/or prices later in 2024 and in 2025.

U.S. Gas Production

With no equivalent of OPEC⁺ to coordinate a cut in production and support prices, U.S. gas futures prices, drilling activity and output have fallen much more sharply than for oil.

Dry gas production averaged 101.3 billion cubic feet per day (bcf/d) in May down from 103.6 bcf/d in the same month a year earlier, EIA data show.

The seasonal decline in output was the largest since the first wave of the pandemic in May 2020 and before that May 1999.

In recent months, inflation-adjusted front-month gas futures prices have slumped to around $2 per million British thermal units, which was at or close to some of the lowest levels on record.

The number of rigs drilling for gas has fallen to around 100 per month from a post-invasion high of 162 in September 2022. Lower production will eventually deplete inventories and push prices higher again.

So far, the adjustment has been repeatedly postponed by a relatively cool summer in 2023 (which depressed airconditioning demand) followed by a mild winter in 2023/24 (which cut heating demand).

In addition, the Freeport LNG's liquefaction facility has experienced multiple interruptions, slowing the growth in gas exports and making it harder to clear surplus stocks.

As a result, prices have remained lower for longer to encourage gas-fired power generators to use as much gas as possible.

Despite these setbacks, the adjustment process is well underway and inventories are likely to revert to more normal levels by the end of winter 2024/25, unless it proves to be another exceptionally mild one.

Source: Reuters

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Thomas

Political

Thailand's Constitutional Court will rule on two politically charged cases in the next week that will decide the fate of Prime Minister Srettha Thavisin and the popular opposition party, amid heightened uncertainty over potential upheaval.

Both cases underline intractable rifts in Thai politics, defined by a two-decade struggle between its powerful conservative-royalist establishment, backed by the military, and parties with mass appeal such as Move Forward and Srettha's ruling Pheu Thai.

What is the case against move forward?

The court will rule on Wednesday on an election commission complaint seeking Move Forward's dissolution over its campaign to reform a strict law on royal insults that protects the monarchy from criticism.

The complaint followed a January decision by the same court on the constitutionality of Move Forward's campaign, which it ruled was tantamount to an attempt to overthrow the system of government with the king as head of state.

Move Forward rejects that but has since dropped the campaign on the orders of the court.

The party has 30% of house seats after it won last year's election but was blocked by conservative lawmakers from forming a government.

What happens if move forward is dissolved?

If Move Forward is disbanded, 11 current and former party executives, including Pita Limjaroenrat, who led the party to victory in the election, could be banned from politics and prohibited from forming a new party, likely for a decade.

Pita last month told Reuters he was hopeful his party would survive the case. It maintains the election commission's complaint was unlawful because it did not follow its own regulations.

If the party is disbanded, its surviving 143 lawmakers will keep their seats and are expected to re-organise into another party, as they did in 2020 when its predecessor, Future Forward, was dissolved over a campaign funding violation, which was among the factors behind massive anti-government street protests.

Dissolution may impact the movement's influence in parliament, however, as bans on its executives would see the removal of its ally and former member Padipat Suntiphada as first deputy house speaker.

What is the case against PM Srettha?

Srettha could be dismissed by the court on Aug. 14 after conservative senators alleged he violated the constitution by appointing to cabinet a former lawyer who was once jailed, whom the senators said did not meet ethical requirements.

Pichit Chuenban, a former lawyer for the politically powerful Shinawatra family - the founders of Srettha's party - was briefly imprisoned for contempt of court in 2008 over an alleged attempt to bribe court staff, which was never proven.

Srettha denies wrongdoing and says Pichit, who resigned from cabinet, had been thoroughly vetted.

What If Srettha is dismissed?

Tycoon Srettha's case is among factors that have heightened political uncertainty and roiled financial markets in Thailand, Southeast Asia's second-largest economy, which he has struggled to revive, with delays implementing his signature handout scheme amid falling popularity.

If Srettha is removed, a new government must be formed and Pheu Thai would need to put forward a new candidate for premier to be voted on by parliament, with no guarantees it will succeed.

The vote could pit Pheu Thai against coalition partners, or lead to concessions in return for parliamentary votes, both of which could result in a shakeup of the governing alliance and a realignment of cabinet and policies.

Who could be PM If Srettha exits?

Only those designated prime ministerial candidates by their parties prior to the last election can be nominated for premier.

Those include Paetongtarn Shinawatra, the ruling party leader and daughter of influential billionaire Thaksin Shinawatra, former Justice Minister Chaikasem Nitisiri, Interior Minister and deputy premier Anutin Charnvirakul, Energy Minister Pirapan Salirathavibhaga and former army chief Prawit Wongsuwon, a former deputy premier who was involved in two coups.

Source: Reuters

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Alex

Stocks

For a while on August 5, things were looking awful. During the Asian trading session, Japan's benchmark Topix share index had fallen by 12 per cent, marking its worst day since 1987.

Stock prices in South Korea and Taiwan had tanked by 9 per cent and 8 per cent respectively, and European markets were falling.

Before trading began in America, the VIX index, which measures how wildly traders expect share prices to swing, was at a level it had only reached early in the COVID-19 pandemic and after Lehman Brothers collapsed in 2008.

Ominously, though gold is usually a hedge against chaos, its price was falling — suggesting that investors might be selling assets they would rather hold on to in order to stay afloat.

The previous week's rout in global markets seemed to be spiralling into a full-blown crisis.

Mercifully, the panic started to ebb once Wall Street opened for business. The VIX fell back to only its highest during the crash of 2022; by the end of the day, the S&P 500 index of large American firms was down by a painful, but not catastrophic, 3 per cent.

On August 6 European markets were fairly flat and Asian ones staged a blistering recovery, especially in Japan, where the Topix rose by 9 per cent. Half an hour after the opening bell had rung in New York, the S&P 500 was up by 1 per cent.

Traders may be able to pause for breath and a few hours' sleep. Even as they do so, however, one question looms large. Did markets simply succumb to a brief bout of summer madness, or is the worst still to come?

One clue to the answer is that what began as the unwinding of a few popular trades has now spread.

The early stages of the fall, which began in mid-July, were led by Japanese stocks, American big-tech firms and global companies in the chipmaking supply chain. They were triggered by a rapidly strengthening yen in the first case and evaporating euphoria over artificial intelligence (AI) in the next two.

On August 2 an unexpectedly weak American jobs report accelerated the plunge dramatically by suggesting that the world's biggest economy may be closer to recession than most had thought.

That still left room for a fair few winners. Even as America's headline indices sank, shares in companies such as Johnson & Johnson, Procter & Gamble and UnitedHealth enjoyed a bounce on the day of the jobs report. Such firms are in sectors well-placed to weather a downturn (pharma, consumer staples and health care, respectively), and pay healthy dividends, raising their value as the Federal Reserve becomes more likely to cut interest rates.

But by August 5 that was little help. Investors were ditching them alongside virtually every other stock in the S&P 500.

Such indiscriminate selling may well resume. Christian Raute, a trading-strategy boss at Citigroup, a bank, says that the breadth of the selling suggests that professional investors have received a "tap on the shoulder" from above, ordering them to reduce their risk no matter what they need to offload to do so. For large funds, that will take more than just a few days of sales.

In the meantime, other outfits will hesitate to buy even assets they think have become underpriced, fearing a behemoth somewhere still has a big position to dump into the market. The gut-churning drops, in other words, may be far from over.

Investors may be forced out of especially crowded bets for other reasons. Look at the astonishing speed with which the Japanese yen has strengthened in recent weeks, for instance, which is probably because of the unravelling of "carry trades". These involve borrowing yen cheaply and using the proceeds to buy other assets — perhaps a higher-yielding currency, such as the American dollar or Mexican peso, or even stocks.

But should the yen suddenly strengthen relative to the other asset, the trade quickly plunges into the red and may need to be terminated. Doing so involves selling the other asset and buying yen to pay back the debt, exacerbating the move and quite possibly forcing others into the same position, creating a vicious circle. If this generates a big loss, the investor may also need to exit other positions to meet it.

Some of the violent recent swings in the yen, Japanese and American stocks, and indeed the Mexican peso may thus be down to yen-based carry trades. Moreover, any popular trade that some investors have funded through borrowing can fall victim to the same sort of doom loop. Bets on firms linked to AI euphoria are a prime candidate.

The VIX index's hair-raising spike on August 5, caused by hordes of investors clamouring to buy insurance on the same stocks at once, suggests quite how crowded such positions are even after the recent unwinding. It also shows quite how much this crowding can move markets. And so there is plenty of potential for future sales, whether forced or voluntary, to cause further ructions.

The most dangerous escalation would come if the turbulence left a sizeable investment vehicle unable to raise the cash to meet margin calls or close loss-making positions. That is what happened to Archegos, a family office, in 2021, prompting fire-sales of its assets and losses for its banks stretching into the billions. At a bigger outfit, such a collapse could spread contagion across the market and imperil other firms.

As yet, "there is not sufficient pain to suggest a big player is in danger," says Citi's Mr Raute. "But if we see five more days of this, that may change."

Another cause for panic could come from bad news on the economy, or on the viability of the AI boom.

There are plenty of potential flashpoints before the summer is out. Around a quarter of firms in the S&P 500 are still due to report their second-quarter earnings. These include Home Depot and Walmart, barometers of American consumer sentiment, and Nvidia, on which the fortunes of AI investors everywhere depend. Inflation data released on August 14 will hint at whether the Fed can indeed cut rates by 0.5 percentage points in September, which many are convinced it must in order to stave off a recession. Given the carnage that followed the most recent jobs report, the next, on September 6th, is another obvious catalyst.

Even now America's stockmarket remains more expensive relative to firms' underlying earnings than at almost any point in history. Greed has given way to fear, and the bulls have taken a battering. But if valuations are to return to normality, there is still a long way to go.

Source: The Economist

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Thomas

Economic

Bond

The Malaysian ringgit's rally is luring global funds to buy more local bonds, giving a further boost to emerging market's top-performing currency this quarter.

Foreign investors poured RM5.5 billion into Malaysian bonds in July, the largest monthly inflow in a year, according to data from Bank Negara Malaysia. The recent surge in the currency has pushed total returns on ringgit notes to 5.9% this year, among the highest in emerging markets.

"Expectations of ringgit strength attracted foreign bond flows, probably on an FX-unhedged basis to position for FX gains, creating a positive feedback loop," said Winson Phoon, head of fixed-income research at Maybank Securities Pte in Singapore. "The stars have aligned for the ringgit and local bonds."

Investors are increasingly taking a bullish position on the ringgit in a sign of confidence in the country's improving economic outlook. The Malaysian currency is up 5.5% against the dollar this quarter. Increased expectations for US interest rate cuts may further attract foreign flows to the domestic bond market. Hot Ringgit Trade Gets Another Boost from Foreign Bond Flows_1

Hot Ringgit Trade Gets Another Boost from Foreign Bond Flows_1

The rush to Malaysian debt securities is partly helped by light foreign positioning ahead of an expected Federal Reserve pivot. Global funds' purchase of bonds over the past 12 months remains at 0.6 standard deviation below the five-year average.

Maybank sees the 10-year Malaysian government yield falling to 3.5% by mid-2025 amid expectations the central bank will maintain the overnight policy rate at 3% through next year. This is supported by waning inflation risks and solid domestic growth prospects. The 10-year benchmark note traded at about 3.75% on Wednesday.

Investors will be on watch for the timing and extent of an eventual cut in subsidies for the nation's most widely used gasoline for further impact on consumer prices.

"We favour tactically positioning for dollar-ringgit to push below our fair value target of 4.30," buoyed by an export recovery, unwinding of dollar longs and room for further foreign bonds and stocks inflows, CIMB Bhd strategists including Michelle Chia wrote in a note on Monday.

Source: Bloomberg

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