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Bernanke's Nonexistent Junk Bond Revival: Street Whispers


Conventional wisdom would have it that the loose policy of the Federal Reserve is pushing investors into risky assets such as junk bonds, driving down yields and giving cash-strapped corporations incentive to take advantage of low rates to lever up their balance sheets.

On the surface, the data supports such logic.

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Junk bond issuance is on pace to shatter records in 2012, according to data from Dealogic, as highly-levered companies tap investors for some of the cheapest debt financings in history. The trend isn't expected to end anytime soon.

Fed chairman Ben Bernanke has signaled to markets the central bank won't raise short-term interest rates until mid-2015. The Fed's mortgage bond buying program -- otherwise known as QE3 -- is also forecast to remain in place long after inflation rises above current levels.

But Wall Street investment banks and investors should be wary of misreading those surface trends heading into 2013. A closer look at the data signals corporations are far from gorging on record cheap debt and Ben Bernanke's oft-cited easy money may be more a of mirage in explaining low yields and booming junk bond markets.

In fact, for Wall Street players like Goldman Sachs (NYSE:GS), Morgan Stanley (NYSE:MS), JPMorgan (NYSE:JPM), Bank of America (NYSE:BAC), and Citigroup (NYSE:C), a different read on present-day issuance records may signal a looming market bust.

Junk bond issuance is hitting new records because corporations are refinancing debts to simultaneously extend maturities and take advantage of today's low rates.

Records aren't being set because new companies are entering the market to add to their debt pile -- and there's a big difference between companies refinancing and those that are levering-up, even if the distinction isn't borne out in data, which shows over $322 billion in junk issuance as of November 28, a 12.6% increase from the previous record annual pace set in 2010.

Consider the biggest junk issuers in November, such as Clear Channel (PINK:CCMO), Sprint Nextel (NYSE:S), E*Trade Financial (NASDAQ:ETFC), Terex (NYSE:TEX), and Clean Harbors (NYSE:CLH). Four of those tapped junk markets in billion-dollar sized issues simply to finance into new debts yielding between 4% and 7%, while extinguishing bonds carrying higher rates. Only Clean Harbors was in the market to add to its debt load, in a financing for a $1.25 billion late October acquisition of recycling specialist Safety Kleen.

November wasn't an aberration. The same dynamics have been present in junk bond markets since the market bottom in 2009... and that should scare some people.

As issuance data shows a record year for junk bonds markets, a screen of balance sheets across the S&P 500 Index (INDEXSP:.INX) and Russell 2000 Index (NYSEARCA:IWM) shows companies are keeping debt levels relatively unchanged this year and a trend of deleveraging since the financial crisis.

Data compiled by Bloomberg shows per share debt levels across the S&P 500 are up just $26 this year, and $36 in the Russell 2000, an increase of 3.5% and 8%, respectively. By measure of net debt-to-earnings, before interest, taxes, depreciation, and amortization (EBITDA) - per share leverage has fallen in both indices, the Bloomberg data show, even as overall issuance is up nearly 30%, according to Dealogic.

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