Harry Koza on Bell bonds
April 24, 2007
|A nervous bond market |
13:58 EST Thursday, Apr 19, 2007
Two weeks ago I wrote about how Bell Canada's unsecured long bond spreads had widened by about 20 basis points on reports that BCE Inc. had been talking to private equity giant Kohlberg Kravis Roberts. That was heartily denied by both parties, and spreads recovered some, but not all, of their lost ground - bond investors were still pretty nervous about the whole idea?but a few days later Ontario Teachers Pension Plan announced that it was looking for ways to make its investment in BCE a little more remunerative, possibly by taking it over with a group of other private equity investors. Spreads widened again.
Over the next few days, Bell bond spreads - and telco paper in general - were volatile. There were plenty of rumours and news items to make waves: One analyst said such a deal would never happen; another, that a merger between Bell and Telus ? creating Bellus or Telell ? was the best possible outcome; yet another suggested that BCE's management might spin off assets to pay special dividends to shareholders, or might make a huge share buyback to boost the stock price. What all these ideas had in common is that none of them is good for holders of Bell's unsecured medium-term notes.
Anyway, this week the other shoe dropped. BCE admitted that, yes, it had been talking to interested parties with regard to a private equity buyout. And the interested parties themselves - the Canada Pension Plan Investment Board, the Caisse de d?p?t et placement du Qu?bec, and the Public Sector Pension Investment Board, plus KKR - announced that they were, in fact, on the bid for BCE, with the Street estimating the price tag as high as $32-billion.
Long Bell spreads blew out again, even wider than before. Let's use the Bell six-tens of 35 (6.10 per cent, maturing March 16, 2035) as an example. They were issued back in March of 2004 at a yield of 6.131 per cent, providing a spread of 112 beeps (basis points) over long Canada bonds.
Towards the end of March this year, before all this KKR kerfuffle, the Bell six-tens of 35 were trading around 150 beeps over long Canadas. Last Friday, as bond traders squeezed into their tuxedos for their 75th annual black tie dinner, Bell 35s closed at 210 beeps over long Canadas. Tuesday, after the latest wrinkle in the Bell saga, the announcement of the LBO partners, they were trading at 280 beeps over. Adding salt to the wound, DBRS, Standard and Poor's and Moody's all put Bell and BCE on credit watch for possible ratings downgrade.
Now, the value of a basis point on a 2035 bond like the long Bells is about 12 cents, or $1,200 per million. So, if you bought $1-million dollars worth of long Bells near the end of March at 150 over, and still own them, they are worth $156,000 less (assuming the long Canada they are benchmarked against is at the same yield, which it isn't - it's about 10 beeps higher - but let's keep this simple). In other words, while BCE shareholders have been rubbing their hands with glee at the prospect of tendering their shares at a fat premium, long Bell bonds have dropped more than $15 in price.
Nasty as that was, it wasn't the only trimming that bond investors took this week. Good old Sallie Mae, the U.S. student loan agency, which nobody figured would ever be the target of a leveraged buy-out since it was already leveraged six ways to Sunday, accepted a $25-billion (U.S.) takeover bid from J.C. Flowers and Co., along with Bank of America, JPMorgan Chase, and Friedman Fischer and Lowe.
Sallie Mae, through a subsidiary, SLM Corp,, had issued $1.15-billion (Canadian) in fixed rate Maple debt. Last Friday, the SLM 4.65's of 11 (4.65 per cent maturing June 15, 2011) were trading around 55 beeps over 2011 Canadas: on Monday, when the LBO was announced, their spread widened by 100 beeps. On Tuesday morning, on the realization that the bonds could conceivably be downgraded to junk status as a result of the deal, they were quoted at as wide as 220 beeps over Canadas. Yow! Pity the hapless trader that had five yards of that puppy on the books ? there goes this year's bonus.
So, between the Sallies and the Bells, not to mention all the other telco paper whose spreads are also widening on fears that they too might become LBO or merger targets, the corporate bond market is starting to get as nervous as a cat near a bathtub. Bond investors are rediscovering the concept of event risk, and they don't like it one bit.
I don't know if this all presages a general repricing of risk in the corporate market, but it sure looks like investors are starting to shun any issuer that might be a possible takeover candidate, and are on the bid for LBO-proof names, suggesting that the process of price discovery has a way to go yet, and that future new issuance of unsecured debt is going to have to be priced at wider spreads in order to find buyers.
Sr. Market Analyst,
36 Green Meadow Crescent,
Richmond Hill, Ontario,
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