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Chris Haffenden

For the first time in a long while, we saw extreme fear in markets earlier this week. As Bill Blain wrote in his Morning Porridge blog on Wednesday:

“Watching the bond sell-off, confidence cracking, reading colleagues and clients’ lack of conviction on stock market momentum, and this morning’s excellent John Authers’ “1987 And All That” Points of Return comment, makes me wonder if October is on course to be a shocker? October is often a shocking month for prices.

This morning the mood feels bleak. Stocks are having an existential crisis – it might be momentary, or maybe not. Bond yields rising on the expectation of higher for longer. The markets is concerned about debt quantum, currency stability and politics…”

But could this be a buying opportunity? As Warren Buffett famously said, “It pays to be fearful when others are greedy and to be greedy only when others are fearful.”

Or, as John Authers wrote this week — are there echo soundings of past October crashes, most notably Black Monday in 1987? Are markets about to be sunk?

Perma-bear Albert Edwards, the SocGen strategist, certainly thinks so. 

"The equity market's current resilience in the face of rising bond yields reminds me very much of events in 1987, when equity investors' bullishness was eventually squashed," said Edwards. "Just like in 1987, any hint of recession now would surely be a devastating blow to equities.”

I was a fresh-faced back office boy when Black Monday happened (19 October 1987) collecting trade tickets at Barclays de Zoete Wedd. It was the worst trading day ever (unless you were short) as US stocks fell 22%. At this point I had little macro and trading knowledge, so didn’t really understand what was going on, apart from it obviously being a big deal. It felt like the end of financial markets only a year after the City’s big bang and the creation of investment banks.

The TV cameras were on the balcony that day, filming images of our traders with their heads in their hands. From my even closer vantage point, I saw at first-hand the sea of red on the dealers screens, with traders and salespeople ignoring the flashing direct lines on their phone boards.

Some would say the market malfunctioned, with a series of accentuating circumstances that are unlikely to happen again. We had a hurricane in the South East on the UK the preceding Friday, meaning many participants were not at their desks. Program trading was in its infancy, and portfolio insurance led to computer-led selling which didn’t have circuit breakers to allow the market to settle (as we have now). Leverage was very high and less margin had to be posted. 

The similarities are that risk markets (equities and HY) are not pricing in a hard landing and are arguably overvalued on a historical basis, leaving them vulnerable. The impact of rising real yields (as described in a recent Friday Workout) has yet to be fully realised (30-year real yield hit 2.5% yesterday, the worst since 2008), nor the magnitude of the movement in rates — as one commentator noted earlier this week, the drawdown in Treasuries in 2020-23 is now worse than the drawdown in stocks during the 2008 financial crisis. 

Bond bear markets rarely end without some form of crisis or a recession. A soft landing won’t cause the Fed and ECB to pivot, as their default stance is being cautious, staying higher for longer. The message is finally getting through — take a look at the change in expectations for cuts in 2024, from say 4-5 months ago, it’s stark. 

Some observers recognise the warning signs from the recent bear steepener — where long-term rates rise at a faster rate than short-term rates — as investors demand ever higher rates to be compensated for longer duration. Not only is this due to the higher-for-longer narrative finally getting through, but arguably it also relates to a growing US budget deficit and consequent sharp rise in government bond issuance. 

Bear steepeners, however, are rare when the yield curve is inverted — when they did happen in 1980-82, 1990, 2001, 2007, and 2020 — all preceded a recession, no exceptions here, sorry. 

But you need to go back to the early 1980s and the Volcker years when the yield curve was so inverted. To invest in the long end and take duration risk, unless you believe that rates and inflation are coming down in the next 12-months, you need more compensation for all the negative carry, as you are so well remunerated for sticking in cash or T-Bills at 5.5% or more.

So what risk assets are most vulnerable to the extreme fear of being on the receiving end of a torpedo carrying a nuclear warhead?

Long duration HY bonds obviously, but also high valuation growth equity, as discount rates will have to rise in line with risk-free rates, hurting NPVs. This includes some of the magnificent seven, where all the stock market outperformance has been this year, but conversely those such as Apple that are cash rich are now earning a decent yield on their cash balances.

But we’ve barely seen a ripple in the calm sea of LevFin, let alone waves, from the rates storm. 

Yes, secondary HY spreads are at three-month wides, but Ino pulled deals or widening in guidance in Europe this week. If anything we saw the opposite — Guala Closures’ HY div-recap/refi managed to price at the tight end of guidance, with two more divi-recaps and repricing in the market for loans. Over the past couple of days, government bond markets have recovered their poise, and Bunds are back to levels at end-September. And zooming out, EHY spreads remain remarkably resilient, with less pullback than see in March after SVB/CS, see below:

So maybe the Hunt for Black October can be called off. As my old head of trading would say: “Don’t bet on Armageddon, it rarely happens.”

Time to finish this section with Bill Blain’s memories of Black Monday: 

“When the bubble burst in New York on the Friday, Asia and Europe were swamped on the Monday. Someone shouted “FIRE” in a very small and packed theatre. There were a host of reasons why it happened – US stocks attracting loads of global demand on the basis they could only go higher, a steady rise in bond yields, global investors using dimly understood hedging, options and early programme trading concepts, and the usual fog of investment decision making.”

Plus ça change, plus c'est la même chose

Altice International’s intention to defease the proceeds of its mirror TLB — instead of immediately repaying its €600m February 2025 SSNs — prompted a lot of debate at 9fin Towers this week. It subsequently led to an educational piecefrom my colleague Chris Osborne. 

As a reminder, in a defeasement, an issuer irrevocably deposits all the principal and interest remaining to be paid on the bonds into an escrow or trust account with the trustee. 

In a call for lenders, Altice International had said that it expected to use the TLB proceeds to fund an escrow account with no ticking fee until the SSNs maturity. Altice will have terminated its obligations to the SSNs but the SSNs will still be outstanding until their maturity or redemption.

Defeasement of this type is very rare. As Chris notes, it is often used to free up security on notes where the redemption and the new issue timeline might not perfectly align. 

But not here — this is pure arbitrage by Altice’s clever treasury team — who have previous form — monetising sizeable FX derivatives positions in its favour to the tune of €626.8m. Here it is capitalising on difference between the SSN’s 2.25% coupon and the government risk-free rate (they must hold European Govvies), which it will pocket until the SSN’s January 2025 maturity. 

As this is happening for more than a year, it is likely that this will be in the form of covenant defeasance where only the covenants obligations are discharged and other obligations such as repayment obligations remain. An issuer could avoid a potential covenant default if one series of notes has tighter covenants by exercising a covenant defeasance, Chris notes. No suggestion that this applies to Altice International, but I’m sure (another) clever lawyer is looking at this. 

It is worth mentioning that FNAC Darty also tried something similar last month in its aborted 6NC2 bond issue. In the use of proceeds section in its Red OM, it said:

“Until the date on which the 2024 Notes will be redeemed, the Issuer will retain a portion of the proceeds of the Offering equal to the outstanding principal amount of the 2024 Notes in a general corporate treasury account. The general corporate treasury account may be a term deposit account and/or may be invested in short-term money-market and similar instruments and will be available to fund ongoing operating and investment requirements.”

Once again there was a juicy arbitrage, as their 24s pay a 1.875% coupon. Unlike Altice the funds are not locked away in an escrow account, ie no strict defeasement, but the effect was the same. 

But here’s the rub. Whereas Altice International was borrowing from loan investors to raise funds to repay (eventually) its bonds, FNAC Darty was fishing for funds in the same investor pool. Admittedly an okay BB credit with some funds willing to increase their Darty exposure but, as in many HY deals, a lot of investors dather than committing new money, would be rolling into the new transaction, which is not possible here. 

Given that the FNAC Darty deal was pulled — citing that “current market conditions not enough attractive” (sic) — was this a factor in not getting the tight pricing that its treasury team wanted? 

One investor tells us yes — but that’s not a big enough sample size for us to draw conclusions — please get in touch and let us know. 

It is certainly weird that FNAC Darty didn’t already have a decent idea where the bonds were likely to price at launch. One investor at the time suggested the 5.625% price thoughts were very aggressive. But Darty had done extensive pre-marketing, so should have known within 25bps-50bps Admittedly they also had a €300m delayed draw term loan in their pocket from an unnamed bank, so could ‘dick for a tick’ despite the near proximity of the May 2024 bonds. 

Defeasance, or actions achieving the same result, could be the next thing. 9fin’s database has over 50 companies with bonds maturing in 18 months with interest rates below 3%. 

There was a lot of activity this week in names that our distressed and restructuring team at 9fin track. This section therefore is a little larger and less brief than normal. 

With their 2024 SUNs about to go current and its directors likely pressurised by the 12-month look forward test Demire bondholders have hosted beauty parades for legal and financial advisors. As 9fin’s Bianca Boorer writes, legal pitches were held last Friday (29 September) and financial pitches on Wednesday (4 October). 

During the Q2 call, Demire management also said they are in discussions with mortgage lenders and capital market lenders to raise secured debt to help address its €600m+ near-term maturity wall, as reported. Aside from the bond principal, Demire has €298m of property backed subsidiary level debt maturing in 2024 and thereafter which is senior to the unsecured bonds.

Its LogPark asset is back on the market, which could raise gross proceeds of €121m, but asset sales are unlikely to be the whole solution to repay the bonds with an A&E or a below par tender offer is more likely, 9fin’s Hazik Siddiqui suggests in his excellent deal prediction from 23 August. 

Groupe Casino released a progress update on its restructuring earlier this week. It is still in negotiations with the unsecured HY and EMTN noteholders, and holders of the hybrids. The bid/ask of the proposals is reproduced below

But given that the unsecured creditors are not part of the financing plan and their estimated recoveries are minimal, Casino is pushing ahead with its restructuring plan. This sees a consortium led by Daniel Kretinsky to inject €900m of new money (€1.2bn in total) in return for 53.7% of the equity and secured creditors writing off €1.355bn of debt in return for 23%. Pro forma shareholdings (outcomes conditional on several warrant exercises) are below:

Notably, the company has fallen short in its request for €1.275bn of operational financing, with €1.178bn being provided by secured creditors. Other interesting tidbits include the possibility of secured creditors being able to sell their shares resulting from the debt/equity swap to the ‘backstop group’ but at a 30% discount, and limited to €275m. 

The French retailer has set lock-ups deadline of 11 October, and is seeking approval from the French court to open a sauvegarde acceleree by 25 October in which it will seek to cram down its junior creditors. Voting is expected in early January with court approval set for early February.

TalkTalk announced details of the sale of its B2B business, Business Direct, for £95m. The buyer is existing shareholders Toscafund and Penta Capital, with wholesale agreement worth £25m over three years also part of the transaction. The price is substantially less than the £200m being touted for the asset (Sky’s report from March based on £17m EBITDA, an 11.8x multiple). 

The sale was a key plank of the deleveraging plan (currently 5.4x leveraged through the OpCo) to address the £685m February 2025 maturity wall. Shareholders had backstopped the sale, saying that it would be done at fair value — the announcement said that a fair valuation opinion has been lodged with TTG’s bondholder trustee — there is a further protection, albeit limited to 12 months, if the asset is sold to a third party, as proceeds above £95m will be passed onto TalkTalk Group.

Next up is the demerger of its wholesale and B2C businesses. Management have said as the wholesale and B2C segments having two distinct profiles it makes sense to finance them separately. The wholesale business is a network asset with longer-term contracts and will make up 75% of EBITDA once demerged, and with infrastructure-like qualities to attract interest from outside investors. The £575m 3.875% Feb 2025 SUNs have fallen five-points this week to 71-mid, yielding over 30%. 

Thames Water has pitched its proposal to Ofwat the regulator for the next five-year regulatory round. The UK utility wants to square the circle on how to achieve a decent enough return for its equity shareholders, who are being asked to fund significant investments in the water company’s creaking infrastructure. If not, the group faces the spectre of special administration. 

As 9fin’s Owen Sanderson outlines, Thames proposes making a £18.7bn investment over the five-year period, but to achieve the return needed, it requires big rises in bills for its customers, higher assumptions on cost of equity and sharp increases in real RCV growth by 2030. The latter is interesting, as effectively it is the capital base on which the regulator allows Thames to achieve a set return, a 30% increase here should juice returns (if inflation isn’t sticky). There are also talks with the regulator on the fines regime and inflation adjustments 

Thames is targeting a 71% senior gearing ratio, down from 78% currently but this is well short of the 55%-60% guided by the regulator. It is looking to improve its interest cover ratio to 2.1x, and hope to achieve a BBB+/Baa1 rating (the regulator is looking for BBB/Baa2 ratings in next round) which looks ambitious given the metrics above. 

The TLDR is that Thames is seeking ways to improve returns via various tweaks which won’t generate further negative headlines and are too complex and nuanced for most to notice. The shareholders wont’t take dividends, but there are other ways to boost value. Whether the regulator will buy into this is moot, and this is likely to be an opening shot. 

In any event, it wasn’t enough to inspire the Kemble bonds — which sit below the securitisation and rely on dividends allowed from the ringfence — as these are now indicated in the low 50s. 

If the Bloomberg article earlier this week is correct, Stonegate may have thrown us a curveball. 

As we’ve opined in these pages before the business it effectively split into two pub estates. One is securitised under Unique (the old Enterprise Inns securitisation) which is low LTV and being a whole business securitisation is very restrictive for the rest of the UK pubs business. The other is much higher LTV and is funded by HY bonds, which could be difficult to refinance without much deleveraging. 

Stonegate had said it was looking to sell up to 1000 pubs, and in its latest call, it reportedly said it was breaking this down into smaller chunks to make it more saleable. We had expressed scepticism that they would be able to achieve the multiples mooted, so reports that they are considering to put them into an SPV and issue debt against them to third parties is interesting. 

My structured finance colleague Owen Sanderson gets excited about the prospect of another securitisation in his latest Excess Spread column, and I won’t reproduce all his points here, but it is worth noting that the LTV for the non-Unique pubs is over 100%, so this might require some form of sponsor support (and/or inflated valuation) to get done, or it might be less funky than a full blown securitisation. 

But if securitisation is indeed the answer, we may have gone full circle, and in double quick time. Many pub securitisations were restructured or collapsed in the past decade, and Punch (as well as Stonegate) came to the HY market in the past 3-4 years, as a fresh source of funding. 

German elevator parts concern Wittur has managed to secure enough lock-ups to get to the 75% hurdle to implement its restructuring via the English courts, but its still hopeful that it can avoid prying eyes from restructuring journalists by getting 100% consent. 

GenesisCare has revised its case timetable, after receiving over 30 bids for its oncology businesses which are being sold on a regional basis. 

SAS, the Scandinavian airline has picked Castlelake as its winning bidder, deciding against an offer being provided by Apollo. 

Schoeller Alibert has secured a €125m injection from sponsor Brookfield to recapitalise the business and smooth a refi of its 2024 bonds. The Dutch pallets manufacturer is using a Dutch Scheme which we think it to cram down the minority shareholders, the Schoeller family. 

And finally, the latest editions of Top of the Flops and Watching the Defectives landed this week. Worth a read for the future pipeline, and which names our team is tracking. 

Never knowingly undersold. I was this week by my dishwasher order provider, which is why the Workout is a little late this week. Hopefully fitted for cash-in-hand just after publication!

As the SBF trial kicks-off, the Guardian has a long read on Michael Lewis who has shadowed the boy crypto genius over the past few years, and had a backstage pass as the crisis unfolded. He has been criticised for defending SBF and doesn’t feel that there was ill intent to defraud.

Some impressive 9fin content caught my eye this week: 

Hot on the heels of our debt purchasers, Blessed to be Stressed, 9fin’s Nathan Mitchell and Matthew Hughes were on this week’s Cloud 9fin to discuss. One for the commute home.

We are looking to up our restructuring educational content. Freddie Doust this week produced a great primer on distressed disposals. 

Last week we talked about complexity being a red flag for Carson Block at Muddy Waters. Another one is a London listing for Tech firms — this will have Jeremy Hunt and Rishi choking on their flat whites!

Another low for the Austria 100-year zero coupon bond — the harshest example of how you can get killed by long duration:

Unfortunately, UBS as expected settled out of court Mozambique’s $1.5bn legal claim against Credit Suisse, commonly known as the Tuna scandal prompting Fish Ratings to issue an update:

Fish Ratings has withdrawn its ‘CCC’ rating of a batch of Non-existent Tuna sold by the former fishmonger Swiss Toni as all of the outstanding liabilities and claims relating to it have been settled, notwithstanding the fact that the rated fish does not exist and never did.

It’s been a tough week to be a Brighton fan, after our 6-1 drubbing at Villa Park at the weekend. I’m not going to make any excuses, our brand of high-risk football can bring such results, we remain the top scorers in the premier league, and are also probably top for entertainment. 

Fans remember just how far we’ve come, and love the connection we have with the club and its chairman Tony Bloom a life-long fan, who on Thursday paid for coaches for a delayed plane load of fans, in order to get to kick-off for our first European away game in Marseilles. 

We went 2-0 down in the first half, but after an outstanding second half performance ended up drawing 2-2 with Joao Pedro ice cool in putting away his penalty.

Liverpool at home on Sunday — whatever the score, tuna in, it will be entertaining.

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