After the sell-off and partial recovery, do we know the level at which prices will find their short-term equilibrium, and the direction of travel in the medium-term? As the chart below shows, the number of deals trading below 90 increased markedly so far in 2022. Not a great period to be owning fixed.

As my favourite 9fin headline said — all you needed were FRNs in the first quarter.

But as I outlined in our latest podcast comparing the state of play in Europe and the US with Will Caiger-Smith, floating rate leveraged loans are trading tighter on an all-in basis than their fixed cousins in HY. After a repricing of junior CLO tranches for recent deals, euro-denominated B2/B- tranches are printing at 450-475 bps – bang on the arbitrage, suggesting little wriggle room to tighten despite some pent-up demand from the lack of issuance.

So, is the time right to get your fixed of High Yield?

According to Bond 101, the higher the interest rate or yield, the lower the convexity — or market risk — of a bond. If you think that most of the near-term interest rate risk is priced in, you should buy a new bond with a higher coupon — the running yield is higher, duration shorter and you are less affected by rate moves.

To illustrate, let’s take a look at the high convexity Seche Environment 2.25% 2028s SSNs issued last November at par. Indicated at 90.75-mid, widening by 65bps since issue (less than HY overall) and yielding 3.85%. So, in less than six months, the strong BB borrower would have close to a four-handle if it came now. At E+300-325 bps in the loan market is my best guess.

Despite the repricing and rise in rates, most investors remain spooked on fixed paper, staying keen on FRNs, which are likely to dominate next week’s issuance. Despite the surge in US Treasury yields and expectations that Fed Funds rates sit at around 2% by end 2022, investors think that global rates will settle even higher than the 2.2% average today, say JPM in their cross asset survey (see below):

In Europe, the rate hikes narrative may be less aggressive, with just two hikes expected, compared to 7-9 stateside, but European government yields are still rising sharply. 10-year bunds now yield 0.84% (from -0.27% on 3 January) and 5-years at 0.63% from -0.51%. Italian and French yields spreads are much wider to Germany, reflecting risk-off sentiment. This coupled with significant underperformance from IG, from a relative value perspective, BB spreads must offer more to compensate, with less credit tourists for High Yield likely to cross the credit spectrum in 2022.

But what is best from a borrower’s perspective?

Do you want to take floating rate exposure here (what if rates explode higher — your interest costs are volatile and open-ended) or do you prefer to lock in fixed? After all, with a traditional 5NC2 deal, you can refinance cheaper if rates start to fall in two-to-three years’ time.

Distress to Impress

In our 11 March workout, we ran the numbers on how many EHY issuers had bonds trading sub-90. There were 131 companies, 23% of our issuers. On a spread-to-worst basis, there was 49 over 800bps (our definition of stressed) and 32 over 1200bps (distressed).

The HY market has improved since then, but despite this, running the same 9fin screener today the numbers have risen slightly. There are 136 companies with bonds trading below 90, with 68 with a STW of over 800bps (with 30 marked as distressed).

But while the numbers of deals in apparent distress continue to impress, aside from borrowers with direct Russian exposure there are few early casualties from the conflict in Ukraine.

Sure, several names have traded down into stressed and even distressed territory, but we are not yet seeing them turn into full blown restructurings. Damage will be inflicted from increased energy prices, shortages of raw material inputs and supply chain issues, augmented by higher labour costs and rampant inflation. But it could take some quarters to flow through and many restructuring advisors believe these will play out in late 2022 and early 2023.

After listening into Q4 conference calls for a number of borrowers in recent weeks, I often hear management teams crowing about their success in being able to index and pass through their rising input costs. They seek to reassure investors over their limited exposure to the latest round of inflation by stating impressive percentages of hedges currently in place. But few are willing to provide details on at what levels their hedges are struck and their impacts when they roll off. Most are declining to predict their outlooks for 2022, citing the unprecedented macro situation. Visibility is arguably the poorest since the pandemic took hold two years ago.

Now sitting in the middle of April, FY 21 and Q4 21 numbers are not particularly helpful, given that the world is very different in 2022. Arguably, the perceived success in managing costs in the second half of 2021 and management’s reassuring words might be inducing complacency amongst investors and setting up for negative shocks as Q1 figures start to feed through.

One area often overlooked is rising labour costs and tensions between employers and employees. Workers are seeking to protect their real wages and are taking advantage of labour shortages and a changing post-Covid dynamic to reverse eroding employment rights. 9fin’s Sam Stevens’ report “The Employee Strikes Back” – looks closer into this and the ESG implications.

Over the next few weeks, we will be picking over the expanded list of stressed/distressed names to pick out restructuring and trade candidates. After two years of disappointments for advisors and investors, could 2022 be the year, that finally distress finally starts to impress?

Is Frigoglass half empty?

It has been a difficult last 12-months for Frigoglass. Their management must be cursing their bad luck, I wouldn’t blame them for feeling (Frigo)glass half empty. A fire in their Romanian plant last June led to production being shifted to Russia. Insurance has covered the damage, but the invasion of Ukraine has meant as 9fin’s Joe Lomas outlines, it is out of the fire into the frying pan.

In FY 2021, 55.9% of CRO sales were derived from Coca-Cola bottlers. Management revealed that following Coca-Cola’s suspension of business in Russia, Coca-Cola Hellenic (CCH) will not be placing any further orders for coolers for their Russian facilities, though orders from CCH’s other regions have not been affected. It is unclear how much Coca-Cola made up of the 14% of Russian sales.

Refrigerator components manufactured in Russia, previously transported across Ukraine to be assembled in Romania, are now traveling further resulting in longer lead times and increased expense. Management disclosed an ambition to move the manufacture of refrigerator components to their Romanian plant by mid-July 2022, hopefully reducing transportation costs and lead times. They admitted logistical issues getting inputs to Russian operations, saying “there is some impact, but we cannot quantify.”

The rebuild of the fire-damaged factory in Romania is now anticipated to be completed by early 2023, with management previously guiding for this year. This leaves the majority of European cooler orders exposed to the Russian plant. Management said that they are not sanctioned, the borders are still open, but they are monitoring the situation closely. They expressed confidence they could satisfy European orders from the Russia operations.

But there is €60m of short-term debt to roll and €30m sits at its Russian subsidiary via a revolving facility from local lenders who are sanctioned. The risk of a cross-default on its HY bonds if more than €15m is not repaid. To avoid a default the company must continue to generate free cash and remain able to shift cash around the group via inter-company transfers.

Affected by a sharp devaluation of the Nigerian Naira amid looming debt maturities in 2017/18 Frigoglass was forced into a restructuring which became effective in October 2017, more than halving its debt load. In February 2020, just before the pandemic hit, it refinanced the post-restructured debt with €260m of 6.875% SSNs due 2025.

The bonds have since dived in the mid-60s after the Russian invasion, rebounding slightly in recent weeks into the low 70s. Prices were little moved after the conference call, indicated at 72-75 today, according to ICE data.

Cerdia is another HY name with Russian operations trading at a yield premium due to this and ESG issues. The Blackstone-owned business is an international manufacturer of filter tow, a key material used in cigarette filters, meaning that many investors may pass on ESG alone.

In hindsight, getting its bond away in early February, was fortuitous. But they had to pay up, pricing their $600m 10.5% 2027 SSNs at 97, an all-in yield of 11.3%, significantly above the term loans which they refinanced. Priced at stressed levels at launch, the bonds dipped to 86, in early March, but have since clawed their back above 90, to 91.0-91.5 today.

Switzerland-headquarted Cerdia has operations in Russia but is not impacted by current sanctions and its local operations continue to import raw materials, produce, and ship products to local customers in Russia. Moody’s however, notes higher logistical costs, which might affect profitability and deleveraging prospects. The company claim they don’t use any local Russian banks for customer, supplier, or intercompany payments. Despite this, the risk of further sanctions that may limit activity for the company and its customers in the region is very real, we outline in our Stressed QuickTake this week. If you are not a client but would like to request a copy of the report, please complete your details here.

Russia has one of the highest smoking rates in the world with 55% to 60% of adult males consuming cigarettes. The question is whether international companies operating in Russia will exit, removing key markets for Cerdia. But while operating in a declining market, margins remain strong, and the new owners have successfully stripped out costs and improved working capital.

Bondholders also have the protection of an excess cash flow sweep, starting this December. In total, 90% Excess Cash Flow if Consolidated Secured Debt Ratio > 3.5x, stepping down to 75% if Consolidated Secured Debt Ratio < 3.5x. As our legal QT outlines, investors managed to push back successfully against unlimited RP covenants, reduced EBITDA addbacks, added a J-Crew blocker and tightened a number of other provisions.

In brief

Nostrum Oil & Gas continues to creep towards a resolution of its restructuring, which has dragged on since 2020. This week it gave an update, saying that shareholders will be asked to approve the plan at a meeting at White & Case’s offices on 29 April. The next stage is to implement the restructuring via an English Scheme or UK Restructuring plan, aiming to complete by the July bond maturity.

Olympic Entertainment has launched its consent solicitation to implement its A&E restructuring. The deadline for responses is midday on 25 April. In total 93.18% of holders have signed up to lock-up’s. For more details, see our Restructuring QuickTake. If you are not a client, you can request a copy here.

What we’ve been reading this week

Elon Musk’s machinations on Twitter have taken up a lot of Matt Levine’s time this week. For me $41.4bn seems pricey to just remove one letter. As our US Editor points out the price is 54.20, which is probably another dig at the SEC from Elon. Twitter is a LevFin borrower, so we will be looking at the CoC and financing impacts in due course, but in the meantime here is our initial take

Given the draconian lockdowns in Shanghai and other Chinese cities - including policing by robot dogs and drones - you might be expecting that Freight rates would be soaring again, but of late they are doing the opposite. The FT tries to explain what is happening.

Is BA still the world’s favourite airline - Bill Blain wants them to lose national flag carrier status

And finally, some interesting metrics being used by Loxam execs in their Q4 reporting: