Telcos provide welcome diversion

Emerging markets continued to dominate the agenda, as they have done all week, but the telecoms sector provided an interesting diversion on Thursday.

Rumours of Vodafone and Verizon Communications resolving the ownership of Verizon Wireless - Vodafone has a 45% stake - have circulated since the beginning of the year. Reports today indicate that the story is nearing its denouement; the two firms are thought to be in advanced negotiations.

Vodafone confirmed the reports, though it said there is no certainty an agreement will be reached. If Verizon does indeed buy Vodafone's minority stake, then it could have a transformative effect on the latter's balance sheet.

But it will all depend on how Vodafone uses the proceeds, which could be as much as $130bn in cash and Verizon Communications stock. The UK company may decide to return 100% of the sum to its shareholders. This would clearly be detrimental to credit investors, as it would weaken its cash position and financial flexibility.

Vodafone could also go the opposite route and use all of the proceeds to pay down debt. Bondholders would benefit from lower leverage and the probable ratings upgrades that would follow.

However, both of these scenarios are probably unlikely. In the past, Vodafone has tried to balance the needs of shareholders and bondholders, and unless it adopts a radically different financial policy, it will do so again.

The proceeds are likely to be shared, with some going to shareholders, another portion to reduce debt and some retained for future M&A purposes.

Vodafone's spreads tightened 7bps to 69bps, a reasonably large move, but one typical of modest balance sheet improvement. Verizon's spreads widened 13bps to 84bps, a result of the extra leverage it will take on if the deal goes through.

Vodafone was trading 21bps wider than Verizon at the beginning of the year; it is now 15bps tighter. Spreads in the two firms converged earlier this year, when a deal was mooted. It may now be closer to fruition.

Outside of the telecoms sector, spreads benefited from calmer conditions in emerging markets. Both Brazil and India hiked interest rates, and India introduced measures that stemmed the slide in the rupee. A potential military strike on Syria may have been delayed, in part due to amendments put forward in the UK parliament by the opposition Labour party.

The Markit iTraxx Europe tightened just over 1bp to 105.5bps, and the Markit CDX.NA.IG rallied by a similar amount to 82.25bps. With a holiday-extended weekend approaching and Syria bubbling in the background, many investors may choose to sit on their hands until next week.

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