- Despite the COVID-19-driven global recession deepening in the second quarter, global bond issuance soared to an all-time high, led by U.S. corporations.
- The economic recovery slated to begin in the third quarter of 2020 will likely be a long, slow process. Some central banks and governments have expanded their initial support, but it is unclear when more normal functioning of economic and financial relationships will resume.
- Based on these factors, we believe global bond issuance will increase by 6% in 2020.
- While issuance volumes so far in 2020 rose at a faster pace in both Greater China and Latin America than at the same point in 2019, recent evidence points to investors being more selective, which may ultimately curb issuance growth in the second half of this year.
|Global Issuance Summary And Forecast|
|(Bil. $)||Industrials§||Financial services||Structured finance†||U.S. public finance||International public finance||Annual total|
|2020 full-year forecast, % change, year over year||20||6||(30)||1||20||6|
|*Through June 30. §Includes infrastructure. †Structured finance excludes transactions that were fully retained by the originator, domestically rated Chinese issuance, and CLO resets and refinancings. Sources: Thomson Financial, Harrison Scott, and S&P Global Ratings Research.|
An Unusual Quarter Prompts A Surge In Issuance
Typically, falling GDP equates to a decline in bond issuance--but that wasn't the case amid the COVID-19-driven recession in the first two quarters of 2020. The global pandemic has prompted a recession, characterized by a lack of demand for products and services, amid the enforcement of social distancing measures. This has thus far resulted in increased household savings rates, but also an increase in corporate debt--as a means for companies to service expenses in the face of the abrupt decline in their revenues.
Around the time the coronavirus was deemed a pandemic, financial markets seized up, with yields rising and issuance grinding to a halt. Companies quickly realized they were going to confront a prolonged period of drastically reduced revenues and ran for any source of cash. The initial tactic was large draw-downs of revolving credit facilities, which in the U.S. and Europe totaled about $340 billion through June, according to Leveraged Commentary & Data (LCD). Roughly 86% of these draws were made in March, and about 98% were made through April, indicating this source of funds is now largely tapped out (see chart 2). Estimates vary, but we believe most of the $340 billion total has been repaid via funds received from new bond issuance in the second quarter.
The collapse of global financial stability in March spread to some areas of fixed income not normally subject to concern. U.S. Treasury yields rose in March, as even safe-haven assets were giving way to a dash for cash, with many seeking pure cash, or similarly liquid instruments. Commercial paper (CP) yields also saw similar volatility, prompting many companies in the U.S. to retire their upcoming principal amounts and shift to longer-dated debt in the primary bond markets to lock in funding rather than face uncertainty in CP markets. This shift also partly explains the bonanza in investment-grade issuance (see chart 3). The outstanding amount of nonfinancial CP in the U.S. dropped roughly $86 billion since the start of the year (through July 1), or roughly 45% year over year--the steepest decline since the financial crisis.
However, CP rates have since stabilized and fallen to just above zero. Only time will tell whether companies will continue to replace maturing CP with longer-dated bonds, or start to believe CP markets are sufficiently stable to capitalize on such low borrowing costs. Given the uncertainty around COVID-19 for the remainder of the year, we expect this shift will likely continue in the near term.
Meanwhile in Europe, short-term European paper (STEP) has increased since March, reaching €451 billion on July 10, from €373 billion at the start of the year. In fact, of the pandemic emergency purchase programme (PEPP)-private sector purchases, the largest share has been CP, accounting for 76% of the €46 billion total.
Ultimately, the need for cash is insufficient on its own to create new debt issuance, particularly at these abnormally high levels. Debt must be attractive to investors as well. Massive, and in some cases unprecedented, intervention and liquidity support from major central banks has been critical to the surge in corporate issuance since late March. The most obvious beneficiary has been investment-grade corporations in the U.S. and Europe, whose borrowing costs fell and whose issuance volumes took off on the Fed and ECB liquidity facility announcements in the latter part of March (see charts 4 and 5).
In Europe, direct lending by the ECB via loans to nonfinancial corporations has increased markedly (see chart 6). This includes draw-downs on existing revolvers, but those were estimated to account for 45% of the total in March, leaving a still historical high for new loans. This helps explain the falling bond spreads on speculative-grade debt in Europe despite a relative lull in new issuance--liquidity for these firms is likely perceived to be just as stable as in the U.S., which has seen a historical high in new bond issuance (see chart 7).
Some have speculated that one of the reasons for the recent surge in issuance has been a possible pull forward of upcoming maturities--essentially to repay existing debt earlier than would be typical. Both globally and in the U.S., our recent estimates of changes in maturing debt levels due over the next few years indicate that prepaying of upcoming principal occurred at similar rates as in the past (see chart 8).
Recent data from our LCD colleagues also suggests that with the exception of May, there was no particular surge in refinancing activity as a percentage of U.S. investment-grade bond issuance in the second quarter either (see chart 9). For leveraged loans, refinancing in the U.S. accounted for roughly 23% of the total issued in the second quarter.
We see little evidence of a pull forward of upcoming maturities. Rather, at this point it seems more likely that companies that have tapped markets recently are building up war chests to ride out the COVID-19 lockdowns. Given the amount of funding investment-grade companies in the U.S. and Europe have obtained, another possible use for these funds could be to spur on mergers and acquisitions (M&A). With many highly leveraged entities experiencing profound stress, the number of distressed companies is higher, perhaps making for easier acquisition targets.
Ultimately, the future course of bond issuance will depend on a few related factors. First and foremost will be the path of the virus: its severity and the timeline for development of a vaccine or treatment options. Second, central banks' and fiscal authorities' actions in response will likely have a large impact on market sentiment and lenders' continued willingness to offer credit, even if a more muted response than we've seen. Both of these factors will play a large part in determining borrowers' ability to issue more debt while avoiding downgrades, or default.
Given the ECB's recent expansion of the size and timeline for the PEPP, we believe it's likely central banks will step in to provide continued liquidity support in the event of any negative development on the health front. Conversely, fiscal responses may be more limited as voters and politicians lose appetite for increased taxes to pay for such large amounts of support. This is especially true if inflation remains as low as it has since the financial crisis. However, until the virus is contained, further fiscal support will be necessary, particularly for labor markets. Europe has recently pushed forward with more fiscal stimulus, though at this time uncertainty remains in the U.S.
With all of this in mind, we expect global bond issuance to continue to rise, by 6% in 2020. We think an economic rebound can truly begin in earnest once a vaccine is widely available, which may not occur until the second half of 2021. It is unlikely that central banks will remove their current support until it is clear that the virus is contained. This should provide companies with an easier cost of debt as well as incentives for investors to further stretch their search for yield. Implicit in this forecast is the marked divergence thus far between corporates and governments (which have experienced very strong growth) and structured finance (which has seen a deep contraction).
We Expect Nonfinancial Issuance To Expand 15%-25%
More than any other sector, global nonfinancials saw unprecedented issuance growth in the year to date, mostly in the second quarter. This was led by U.S. investment-grade companies, which have already beat their full-year 2019 total. European companies are in a distant second, but they're still up 41%--a particularly strong growth rate even in normal circumstances.
The reason for much of this surge has been companies having prospects for little to no revenue in the face of the virus--forcing a rush for cash--combined with extraordinary liquidity support from central banks, most notably the Fed and ECB. Prospects for additional waves of infections for the remainder of the year are still high, which will likely be met with further social distancing and forgone income. We believe that central banks will likely step in to thaw any future freeze in liquidity in much the same ways as they already have. The Fed's facilities are set to expire in September, and we think these may get extended further--as the ECB has already done for the PEPP. These actions could get a positive response from markets--though likely a more subdued one than during late March-May.
If the world avoids additional waves of infections, and positive vaccine developments continue, economic activity should slowly resume, which should also support a more normal pace of issuance. Although only just showing signs of life, global corporate M&A rebounded in June to $243 billion, the highest monthly total since 2019.
For the most part, this continued growth will be limited to developed markets. Meanwhile, we expect issuance to broadly decline for most emerging markets, as suppressed trade will limit opportunities for capital expenditure and the issuance often needed to fund it.
Financial Issuance Could Rise By 3%-10%
Although not as extreme as the growth rates in nonfinancial corporates, global financial services have also seen a boost to issuance in 2020 thus far. Similar to nonfinancial entities, we expect this pace to slow in the second half as liquidity fears generally subside. Most of the dynamics for nonfinancial sectors will also apply for financial services, particularly our expectation for issuance growth in the U.S.
Excess reserves U.S. banks hold with the Fed have increased substantially in 2020, and this tends to be a leading indicator of bank issuance. U.S. financial services companies reached nearly $200 billion in issuance during the second quarter, which was generally the same pace as the increase in excess reserves.
Meanwhile, the ECB has extended a third round of targeted longer-term refinancing operations (TLTROs) in Europe, with a price tag of €1.17 trillion and rates on these facilities well below zero. This could suppress issuance to some extent as an alternative source of funding for banks. In fact, European financials showed comparably low issuance growth in 2020 thus far, of roughly 4.7%.
Given little evidence of a large pull forward of maturities in the second quarter, the sizable maturities of global financial institutions through 2022 continue to offer groundwork for refinancing needs, supporting continued issuance growth.
While issuance volumes so far in 2020 rose at a faster pace in both Greater China and Latin America than at this point in 2019, recent evidence points to investors being more selective, which may curb issuance growth in the second half of this year. This comes as economic growth will likely be soft, opportunistic issuance for firms with healthier balance sheets may have already happened, and fewer opportunities may exist for lower-quality borrowers facing higher cash burn and increased business and financial risks.
Global Structured Finance Issuance Is Likely To Decline By At Least 30% In 2020
As the global pandemic has raged on through the first half of 2020, structured finance has suffered the most significant deterioration in issuance volume across fixed-income asset classes--falling 23%. We now expect the global total for structured finance issuance to contact at least 30% in 2020.
In the U.S., we expect the asset-backed securities (ABS) and commercial mortgage-backed securities (CMBS) sectors to each decline about 30% in 2020. The implementation of the Term Asset-Backed Securities Facility (TALF) is expected to have a relatively muted effect on issuance growth given diminishing demand for short-term assets. Deteriorating consumer fundamentals, punctuated by a record-high unemployment rate, along with social distancing measures, have had a particularly harsh impact on brick and mortar retailers, restaurants, hotels, and gaming operations. Similarly, the RMBS sector could see a decline of roughly 25%.
The U.S. structured credit sector is expected to decline at least 40% by the end of 2020, as managers continue to search for attractive underlying collateral pools. In the first half of 2020, the structured credit sector reported its lowest volume year to date in the past five years.
In Europe, we expect structured finance issuance to continue to deteriorate at least 25% in 2020. Overall new issue volume fell 20% in the first half of 2020, largely a result of flagging covered bond issuance, while we expect structured credit to expand slightly.
Outside the U.S. and Europe, structured finance issuance has declined 12% year to date, and we now expect an annual decline of at least 20%. Japan has been able to sustain issuance levels comparable to 2019. Meanwhile, Australia sustained a 60% drop in structured finance issuance in the first half of 2020. In response, the Australian Central Bank has cut interest rates to 0.25% and has launched an unlimited quantitative easing program in an effort sustain the economy through the coronavirus pandemic.
U.S. Public Finance Issuance Is Set To Grow Marginally
We forecast that U.S. public finance issuance in the third quarter will be higher than we saw in the first quarter, when there was only $93 billion. With states and localities needing to meet funding without immediate access to normal revenue due to the stalling of the economic recovery, we anticipate that issuance will rise, and budgets may tumble a little further down the road.
That said, the second half of 2019 saw particularly strong issuance totals, making for tough comparisons. Our forecast of issuance through the end of the year depends on how quickly economic activity resumes, on its sustainability as new coronavirus cases rise, and on what aid the Fed or Congress makes available to state and local governments. At this time, we expect issuance to expand marginally, but with upside of 7% growth or so if states and localities are forced to issue debt to weather further shutdowns or a lack of assistance from the federal government.
International Public Finance Should Expand On A Strong Pipeline
After declining in the first quarter, international public finance volume expanded in the second quarter, pushing the first-half total up over 22%. We think the pipeline of deals in this sector should remain robust through the second half, at least enough to maintain a roughly 20% growth rate for the year.
A massive supply of debt is coming due between 2021 and 2024, and with capital markets on the mend, issuers should be able to manage these needs.
Global new bond issuance in the first half of 2020 totaled $4.5 trillion, up 25.5% relative to the first half of 2019. Most sectors saw tremendous increases, led by industrials (up 58.1%), with international public finance a distant second (up 22.3%). Financial services was up 18.3%, and U.S. public finance increased 14.6%. In contrast, global structured finance issuance declined 23.1% in the year to date, as the global recession weighed heavily on real estate-related sectors, and leveraged loans saw a decline, translating to lower collateralized loan obligation (CLO) issuance.
These figures include only long-term debt (maturities greater than one year) and exclude debt issued by supranational organizations. All references to investment-grade (rated 'BBB-' or higher) and speculative-grade (rated 'BB+' or lower) debt are to issues rated by S&P Global Ratings.
Conditions Improve As U.S. Issuance Sets Records
The coronavirus lockdown in the second quarter of 2020 is estimated to have led to a U.S. economic contraction of nearly 34% (on an annualized basis), with an unemployment rate of 13.4%. Despite this, corporate bond issuance in the U.S. reached an all-time high of $764 billion--after hitting a prior high in the first quarter of $517 billion.
Borrowing costs have tumbled for safer assets, such as Treasuries and investment-grade debt, during the quarter. Yields on the 10-year Treasury have reached 0.66%, indicative of the entire yield curve falling after the Fed lowered interest rates in March. For investment-grade issuers, this has generally led to falling yields in both the primary and secondary markets, but for speculative-grade debt, there is still residual stress in secondary markets (see table 2).
|Indicators Of Financing Conditions: U.S.|
|M1 Money Supply, % change, YoY||x||39.3||4.8||2.8|
|M2 Money Supply, % change, YoY||x||24.5||4.7||4.1|
|Tri-party repo market - size of collateral base (bil. $)||x||2,305.3||2,364.1||1,914.3|
|Bank reserve balances maintained with Federal Reserve (bil. $)||x||2,901.8||1,480.6||1,929.4|
|Three-month nonfinancial commercial paper yields, (%)||x||0.17||2.26||2.10|
|Three-month financial commercial paper yields, (%)||x||0.22||2.22||2.20|
|10-year Treasury yields (%)||x||0.66||2.00||2.85|
|Yield curve (10-year minus three-month) (bps)||x||50||(12)||92|
|Yield-to-maturity of new corporate issues rated 'BBB' (%)||x||2.79||3.44||4.45|
|Yield-to-maturity of new corporate issues rated 'B' (%)||x||7.08||6.90||7.59|
|10-year 'BBB' rated secondary market industrial yields (%)||x||2.85||3.81||4.55|
|Five-year 'B' rated secondary market industrial yields (%)||x||9.16||7.22||6.89|
|10-year investment-grade corporate spreads (bps)||x||177.5||142.5||143.9|
|Five-year speculative-grade corporate spreads (bps)||x||635.9||415.6||332.3|
|Underpriced speculative-grade corporate bond tranches, 12-month average (%)||x||10.9||14.8||17.5|
|Fed Lending Survey For Large And Medium Sized Firms*||x||41.5||(4.2)||(11.3)|
|S&P Global corporate bond distress ratio (%)||x||12.7||6.8||5.1|
|S&P LSTA Index distress ratio (%)||x||12.5||3.2||2.3|
|New-issue first-lien covenant-lite loan volume (% of total, rolling three-month average)||x||82.3||77.5||85.6|
|New-issue first-lien spreads (pro rata)||x||298.2||383.3||325.0|
|New-issue first-lien spreads (institutional)||x||480.7||403.7||375.0|
|S&P 500 Market Capitalization, % change, YoY||x||5.0||6.0||11.0|
|Interest burden (%)§||x||11.1||11.5||11.2|
|Note: Data through June 30. *Federal Reserve Senior Loan Officer Opinion Survey on Bank Lending Practices For Large And Medium-Sized Firms; through first-quarter 2020. §As of June 30, 2020. Sources: IHS Global Insight, Federal Reserve Bank of New York, S&P LCD, and S&P Global Ratings Research.|
Thus far, the Fed's extraordinary actions have pushed markets forward, though with little direct participation. The liquidity backstops have supported fixed-income markets. With the pace of new coronavirus cases picking up in southern and western states, it is clear that the virus will not be quick to disappear. Positive developments on the vaccine front have been fairly steady, though we don't believe an effective and widely distributed vaccine will be ready for some time yet. This leaves the likelihood high that the Fed and federal government will need to step in again with more stimulus to pull the economy forward. Markets would likely respond positively, though the longer the medical situation remains unresolved, the higher the potential for fatigue among investors.
U.S. corporate issuance reaches a new quarterly high
With extraordinary market support from the Federal Reserve, companies facing immense uncertainty from COVID-19 raced to secure financing while it was available. Quarterly U.S. corporate rated bond issuance grew to a record $682.5 billion in the second quarter, 48% higher than the previous record set in the first quarter. Issuance peaked in April at $275.7 billion, surpassing the record for monthly issuance set in March. Issuance remained very strong in May, at $248.2 billion (slightly higher than in March) before dropping off to $158.6 billion in June, which is still a strong amount historically.
Investment-grade corporate issuance in the second quarter set another record at $564.2 billion, 39% higher than the first quarter. Issuance remained very strong in April ($240.6 billion) and May ($213.3 billion) after peaking in March ($242.9 billion). The pace of investment-grade issuance slowed in June ($110.3 billion).
Speculative-grade issuance in the second quarter set a record at $118.3 billion. This includes $25.3 billion issued by fallen angels (issuers downgraded to speculative grade from investment grade). Excluding debt fallen angels issued, second-quarter issuance still surpasses the previous record from third-quarter 2012 ($89.8 billion). Over two-thirds of issuance was from issuers in the 'BB' category, with $79.7 billion ($25.3 billion from fallen angels). Issuance in the lower rating categories also compared favorably with the monthly averages. Speculative-grade issuance was strong every month during the quarter, and finished with a record for monthly issuance in June with a total of $48.3 billion ($7.8 billion from fallen angels).
In the second quarter, nonfinancial corporate rated bond issuance rose 164% compared with second-quarter 2019 to $497.3 billion. Issuance in the high technology, consumer products, and health care sectors accounted for nearly 35% of all nonfinancial issuance, with $80.6 billion, $48 billion, and $45 billion, respectively. Financial rated bond issuance grew 64% to $185.2 billion. Issuance was strong for both financial and nonfinancial rated issuers throughout the second quarter.
Boeing Co. topped the list of issuers in the second quarter, along with two banks and two telecommunications companies (see table 3). Boeing issued a massive seven-part senior unsecured note offering that totaled $25 billion on April 30. The company is expected to use proceeds to pay down short-term debt and add cash to the $15.5 billion it had on hand as of March 31.
The outlook on Boeing remained stable following the transaction. While the company's pro forma credit ratios weakened somewhat because of increased interest expense, this was offset by a much larger liquidity cushion that should help fund substantial cash outflows in 2020. As a result of the larger-than-anticipated transaction, Boeing stated that it would not need to access any government lending programs.
|Largest U.S.* Corporate Bond Issuers: Second-Quarter 2020|
|Aerospace and defense||25,000.0|
T-Mobile US Inc.
Wells Fargo & Co.
|Banks and brokers||16,674.9|
JPMorgan Chase & Co.
|Banks and brokers||16,500.0|
Exxon Mobil Corp.
|Oil and gas||14,747.1|
Walt Disney Co. (The)
|Media and entertainment||10,983.5|
|Banks and brokers||10,737.1|
Bank of America Corp.
|Banks and brokers||10,000.0|
|Oil and gas||8,000.0|
Ford Motor Co.
General Electric Co.
|*Includes issuance from Bermuda and the Cayman Islands. Sources: Thomson Financial and S&P Global Ratings Research.|
Leveraged loan new issue market halts as secondary market suffers extreme losses
Total U.S. institutional loan activity in the second quarter clocked in at a four-year low of $44.4 billion. As unimpressive as that number is, especially compared with the Fed-fueled frenzy in the U.S. speculative-grade bond segment, it would have been worse were it not for a resurgence in June due to optimism over a reopening of the economy. Indeed, new issue volume in June alone made up 58% of total second-quarter activity and was the second-busiest month of 2020, behind a robust January.
More broadly, issuers continued to scramble for liquidity, drawing on existing revolving credit during the quarter, in lieu of new issuance. LCD identified $315.5 billion in revolving credit drawdown activity from March 5 to June 26 (including some investment-grade issuers), with corporate entities looking to term out those borrowings to preserve financial flexibility amid a highly uncertain environment.
M&A has been slow to recover globally. Gradual improvement of the loan secondary market during the spring opened the window for M&A-related loan commitments inked before the pandemic, propping up volume. Even with sizable deals, such as ThyssenKrupp Elevator and T-Mobile, which opened the M&A flow in April, leveraged buyout and M&A volume fell to an eight-year low in the second quarter, at $23.8 billion for institutional U.S. issuance. Some M&A supply was siphoned into the bond market. Eldorado Resorts' merger with Caesars Entertainment was financed largely with high yield--$6.2 billion of secured notes and just $1.8 billion from a term loan B.
On the demand side, U.S. loan funds and exchange-traded funds saw some $3.6 billion in redemptions, amid tepid backing from the Fed and with what looks to be no interest rate increases for the medium term. However, loan outflows have eased noticeably from the hemorrhaging in March.
CLO origination, the loan market's primary demand driver, dried up at the onset of the crisis. However, issuance has been increasing month over month, helping to buoy overall appetite for the asset class. In particular, managers have found ways to take bank warehouses that were in place before COVID-19 and launch them into fully fledged deals, with increasing success, in May and June. To some extent, the appreciation of loan prices during the quarter has helped boost issuance, as managers' portfolios appear less distressed to CLO debt investors than they might have at the end of the first quarter.
A rebound in the loan secondary market joined a broad rally in risk assets amid hopes of a coronavirus vaccine and the gradual reopening of the economy, though volatility remains relatively high. After plunging 12.37% in March--the second-worst decline in the 23-year history of the S&P/LSTA Leveraged Loan Index--the year-to-date loss for the asset class narrowed to 4.56% by quarter-end. This was tempered late in June as COVID-19 cases spiked in several states, but the average bid price as of June 29 was 89.94, roughly 14 points higher than its 2020 low point of 76.23 on March 23.
As a result, the discounted spread to maturity of outstanding first-lien loans narrowed from March highs, as tracked by the S&P/LSTA Leveraged Loan Index. The average spread to maturity of issuers rated 'B+' or 'B' narrowed to LIBOR (L) + 481 by quarter-end, versus L+739 in March, while 'BB–'/'BB' issuers had an average spread to maturity of L+338, down from L+458 in March. With that said, both cohorts are roughly 80 basis points (bps) wider than their 2019 averages.
U.S. public finance finishes the quarter on solid footing
U.S. municipal bond issuance in June 2020 totaled $45.3 billion, up from $25.9 billion in the prior two months. Issuance in the second quarter was $104 billion, the highest second-quarter total since 2016, and just above the 10-year average.
Breaking out issuance into components, new money issuance has fallen as a percentage of all issuance so far this year, to 54% through June, compared with 62% last year. Refunding has seen an increase in terms of percentages, up to 31% from 25% last year, while mixed used issuance is up slightly, at 14%.
Following the passage of the Tax Cuts and Jobs Act in 2017, the U.S. public finance issuance landscape shifted. In the six years before the act, annual new issuance volume was 38%-48%, refunding was 33%-42%, and mixed use issuance 18%-21%. In the two years since, new issuance averaged 66%, refunding 21%, and mixed use 12%. With that in mind, the issuance breakdown for the first half of 2020 is right in between, with new issuance making up 54%, refunding 31%, and mixed use 14%.
Individual large issues in June were lower than we have seen in the past, with only one single issue above $1 billion, by the NYS Urban Development Corp. Usually, we see at least two and often times more large issues. We also usually see California in the top 10 (see table 4).
|Largest U.S. Municipal Issues: June 2020|
NYS Urban Development Corp
Regents of the University of Mich
Texas Transportation Commission
Ohio Public Fac Commission
NYC Municipal Water Fin Auth
Great Lakes Water Auth
|Sources: Thomson Financial and S&P Global Ratings Research.|
For the year to date, California has issued the most debt, with $26.7 billion so far, up 2.4% compared with this time last year. New York is second, with $25 billion, up 51.5% from last year (see table 5).
|Top 10 States By Bond Sales, June 2020|
|State||Rank||Volume (mil.)||June volume (mil.)||Rank||Volume (mil.)||Change from previous year (%)|
|Sources: Thomson Financial and S&P Global Ratings Research.|
Structured finance issuance fell over 28% in the first half of 2020
The spread of the coronavirus pandemic to the U.S. in February 2020 quickly dampened structured finance issuance in the second quarter of 2020. April saw the greatest retreat across most asset classes as investor and market participants were grappling with the implications of nationwide social distancing and stay-at-home mandates, and what that would mean for both the U.S. and global economies. The unemployment rate spiked to its highest level since the Great Depression, at 14.7% in April, as mass layoffs across the country began to transpire with the closing of nonessential businesses. Issuance slowly picked up again at the start of May, following combined stimulus through the CARES Act, the Fed cutting yields back to zero, and the reemergence of many asset purchase programs utilized in the global financial crisis.
New issue ABS volume dropped off significantly in the first half of 2020, to $82.4 billion, down 27% from the prior year. Issuance in April and May was less than half of what had been issued during the first quarter. However, issuance began to rise in June in response to government stimulus measures.
Weakness emanated mainly from the credit card ABS sector, which was down 87%, with just $1 billion in the first half of 2020. Esoteric ABS, which consists of more niche collateral, was down over 43% in the first half of the year, at $17 billion. Auto ABS was down only 12% year over year at $45 billion. Student loan ABS was the only sub-asset class to report an annual increase in the first half of the year, of 23% to $9 billion.
In response to declining economic conditions in light of the global and U.S. response to COVID-19 and the developing global recession, the U.S. Federal Reserve enacted on April 9, 2020, the term asset-backed securities loan facility (TALF) special purpose vehicle (SPV), which it used to bolster the securitization market in 2009 and 2010. The TALF SPV will make $100 billion in loans initially available.
Further, the loans will have a term of three years, will be nonrecourse to the borrower, and will be fully secured by eligible ABS. In terms of eligible collateral, all must be ABS, where the underlying credit exposures include auto loans and leases, student loans, credit card receivables (consumer and corporate), equipment loans and leases, floorplan loans, insurance premium finance loans, specific small business loans that are guaranteed by the Small Business Administration, leveraged loans, or commercial mortgages.
New issue CLO volume fell over 38% in the first half of 2020, totaling $37 billion. Throughout the second quarter, monthly issuance volumes continued to deteriorate. June had the largest total by volume, at $5.5 billion.
Going into 2020, expectations for CLO issuance were negative relative to the prior year, as leveraged loan volume, a leading indicator of CLO issuance, had been steadily declining since the middle of 2018. In the first half of 2020, leveraged loan volume fell even further, indicating lower levels of future new issue CLOs. Further, CLOs are particularly vulnerable to the impact from COVID-19 because of the underlying loans containing speculative-grade corporate debt. However, some relief may come from the recent inclusion of 'AAA' rated CLO in the TALF SPV.
The RMBS sector reported $39 billion in new issue volume for the first half of 2020, down 23% compared with the same period in 2019. The sector suffered an immediate drop-off in issuance in April and May, with monthly totals of $2 billion. However, in June, new issuance came back to market, totaling $9 billion.
In light of the coronavirus pandemic, some people have been moving from densely populated urban cities to the suburbs, facilitated by the Federal Reserve once again slashing interest rates. However, the question of sustainability of demand remains as U.S. unemployment levels are still high and unemployment benefits for many Americans are set to run out at the end of August.
As home sales are a leading indicator of RMBS issuance, we expect the sector to experience hardship in the face of supply if home sales fall once again.
Following an outstanding first quarter for CMBS issuance, the sector all but came to a halt in April, with less than $300 million in volume. Overall CMBS issuance in the first half of the year was down 23% compared with the same period in 2019. We expect continued deterioration in new issue volume throughout the year, given the sector's exposure to economic volatility and real estate debt funding, as well as the inability to perform site visits for all types of syndicated real estate-related debt issuance.
Conditions Improve And Lending Continues In Europe
Similar to the U.S., European markets enjoyed a rebound in the second quarter, with yields falling and debt issuance resuming after markets froze in March. Initially, investment-grade corporate issuance bounced back while the speculative-grade segment lagged. That said, the June monthly total for European speculative-grade bond issuance reached the second-highest monthly total after April 2014 ($28.2 billion versus $40 billion).
Loans from the ECB to nonfinancial corporations have also reached new highs since March, and credit spreads have tightened significantly. Financing conditions in Europe are now back to being broadly supportive (see table 6). Still, after expecting lending standards on loans to corporations to ease substantially in the second quarter during the ECB's senior loan officer survey from the first quarter, lending standards tightened marginally instead.
Perhaps in a proactive move, on June 4, the ECB expanded its PEPP by €600 billion, extended the program through June 2021, and pledged to reinvest its proceeds through at least the end of 2022. Recently, EU leaders agreed upon a €750 billion fiscal stimulus, perhaps historic in its design in that countries will sell bonds collectively, rather than as individual countries, and that portions available to the countries hardest hit by the virus will be in the form of grants rather than loans. This puts governments and the central bank in sync to provide the stimulus needed to better weather the potential for downside risks. These moves should also further support favorable lending conditions.
|Indicators Of Financing Conditions: Europe|
|M1 Money Supply, % change, YoY*||x||7.3||7.2||7.5|
|M2 Money Supply, % change, YoY*||x||4.1||5.3||4.4|
|Three-month euro-dollar deposit rates (%)||x||N.A.||2.55||2.30|
|ECB Lending Survey of Large Companies§||x||1.23||0.74||(3.05)|
|Yield-to-maturity of new corporate issues rated 'A' (%)||x||1.34||1.30||2.23|
|Yield-to-maturity of new corporate issues rated 'B' (%)||x||5.76||7.28||7.67|
|European high-yield option-adjusted spread (%)†||x||5.21||3.71||3.88|
|Underpriced speculative-grade corporate bond tranches, 12-month average (%)||x||22.6||27.0||22.0|
|Major govt interest rates on 10-year debt||x|
|S&P LCD European Leveraged Loan Index distress ratio, %||x||7.62||2.03||0.74|
|Rolling three-month average of all new-issue spreads: RC/TLA, (Euribor +, bps)||x||287.5||320.0|
|Rolling three-month average of all new-issue spreads: TLB/TLC, (Euribor +, bps)||x||476.9||391.8||371.7|
|Covenant-lite institutional volume: share of institutional debt (%, rolling three-month average)||x||85.0||92.0||91.0|
|Data through June 30. *Through April 30. §European Central Bank Euro Area Bank Lending Survey for Large Firms, second-quarter 2020. †Federal Reserve Bank of St. Louis. Sources: IHS Global Insight, ECB, S&P LCD, and S&P Global Ratings Research.|
Corporate bond issuance in Europe expanded in the second quarter
Quarterly corporate rated bond issuance out of Europe increased to €340 billion in the second quarter, up 60% compared with second-quarter 2019 (see chart 19). Issuance was strong throughout the quarter and finished with $114 billion in June.
Investment-grade corporate issuance totaled €306.5 billion in the second quarter, 72% higher than a year ago, while speculative-grade issuance totaled €34 billion, up only 1.6% from a year ago. Issuance among speculative-grade rating categories compared favorably with historical averages, except for 'CCC'/'C'. Investment-grade issuance was strong throughout the quarter while speculative-grade issuance began weak but finished very strong with €25 billion in June (all 'CCC'/'C' issuance occurred in June).
Second-quarter nonfinancial corporate rated bond issuance grew to €154.7 billion, up 97% compared with second-quarter 2019. Issuance in the oil and gas, high technology, and consumer products sectors accounted for 47.5% of all nonfinancial issuance, with €36.6 billion, €22.9 billion, and €13.9 billion, respectively. Financial corporate rated bond issuance rose 39% to €186 billion.
BP Capital Markets PLC topped the list of issuers in the second quarter (see table 7). BP Capital Markets first issued a three-part senior unsecured note offering that totaled $3.5 billion on April 2 and followed up with a five-part perpetual bond offering totaling $11.9 billion on June 17. Our rating on parent company BP PLC is currently 'A-' with a stable outlook.
|Largest European Corporate Bond Issuers: Second-Quarter 2020|
BP Capital Markets Plc
|U.K.||Oil and gas||13,838.4|
Shell International Finance B.V.
|U.K.||Oil and gas||8,365.6|
Total Capital International
|Norway||Oil and gas||7,674.9|
Credit Agricole S.A.
|France||Banks and brokers||6,769.4|
Anheuser-Busch InBev S.A./N.V.
Banco Santander SA
|Spain||Banks and brokers||4,794.3|
Credit Suisse AG
|Switzerland||Banks and brokers||4,773.2|
UBS AG London
|U.K.||Banks and brokers||4,598.9|
|Germany||Banks and brokers||4,302.2|
Royal Bank of Scotland Group
|U.K.||Banks and brokers||3,929.1|
|U.K.||Banks and brokers||3,781.9|
|Sources: Thomson Financial and S&P Global Ratings Research.|
European leveraged loans go from bull to bust
In Europe, the story is similar, as a strong recovery in risk appetite following March's coronavirus-led collapse was not enough to save leveraged finance in the second quarter. The loan asset class recorded sharply lower volume. Institutional loan volume fell to just €9.5 billion in the second quarter from €22.86 billion in the first.
Given the importance of structured investors, such as CLOs in loans, liquidity was slower to come back to that market as accounts first focused on their own portfolios, amid a sudden and strong wave of downgrades. Across April, May, and June, there were 78 downgrades and only four upgrades of loan facilities in the S&P European Leveraged Loan Index (see chart 21).
The European CLO market has shown much resilience, pricing a slew of transactions by the end of the quarter. At face value the market looks to be back on its feet, but on closer inspection it appears CLO issuance has adapted to de-risk warehouses in play before the pandemic hit. This dynamic has resulted in smaller transactions that are short-dated, with less leverage, and an arbitrage that is suboptimal.
However, the European CLO market began July with a positive tone, with yet another CLO setting the tightest spread for a 'AAA' tranche since the start of the pandemic. The pipeline of new deals is said to still be sizable. There are questions though around how managers that need to source third-party equity will fare, with nearly all managers that have issued since the start of COVID-19 having access to risk-retention capital or their own equity.
On the supply side, conditions also improved significantly by late spring, and loan issuance really started to fire in late June. It was a fitful return for the primary market though, which started from an initial stream of liquidity rescue financings, through to the reopening of the buyout market.
Europe has lagged the U.S. in its recovery. Borrowers' first moves have been to shore up their balance sheets, drawing on their revolvers, before looking to their banking relationships--often in conjunction with one or more of the government-guaranteed loan schemes for further liquidity.
In Europe, loans too opened up to buyouts and acquisition-linked deals that allowed underwriters to start to clear bridges placed before the crisis hit. Although M&A volume in Europe was down for the quarter--at €6.8 billion, versus €14.7 billion in the first quarter--in June, deal activity jumped to €5.87 billion, from only €950 million in May.
M&A started in popular sectors such as laboratories, with BioGroup-LCD wrapping a €274.7 million non-fungible TLB supporting an acquisition at EURIBOR (E) + 425 with a 0% floor, offered at 97. This pricing gave a yield of 4.96% and compared with guidance of E+400-425 with a 0% floor at 99 (for a yield of 4.24%-4.50%) for the same deal when it was first launched in March.
The firm's existing syndicated loan was an E+375 TLB, also due April 2026, that had been quoted in a 100.25/100.75 area at the market's height in January, suggesting a yield of 3.7%--meaning the second quarter's deal brought an upward repricing for the borrower of no more than 125 bps. In all, the average yield to maturity for 'B' rated euro-denominated TLBs rose to 5.36% through the quarter--its highest level since the second quarter of 2016.
The sell-down of ThyssenKrupp Elevators across bonds and loans in both Europe and the U.S. toward the end of the quarter, however, was in a different league. The launch came after a pre-marketing period, and syndication closed slightly ahead of schedule, taking roughly a week from start to finish. Pricing also closed tighter than guided, with the secured euro-denominated bond settling at 4.375%, and a euro loan at E+425 with a 0% floor offered at 98. A euro unsecured bond priced at 6.625%. Closing also came after various revisions to tranching, which pushed more of the secured structure into the dollar TLB and euro fixed-rate notes, while there was a significant rewrite to documents.
Overall, sources said the book was multiple-times covered, but cautioned that demand in European loans still appeared to run behind that seen in the U.S. or high yield. As such, while the deal means the quarter finished significantly stronger than many could have hoped three months ago, conditions remain some way off those seen in January.
Structured finance issuance declined significantly in Europe
For structured finance in Europe, securitization issuance levels were rising at the beginning of 2020 as the market adjusted to the EU Securitization Regulation implemented at the outset of 2019. The deceleration in issuance in March 2020 in light of reactions to COVID-19 was present in Europe as well. Overall European issuance was down 20% in the first half of 2020, mainly led by covered bonds.
Overall volume in the structured credit sector in Europe was already expected to decline before the pandemic. In the first half of 2020, there was $18 billion in new structured credit originations, down 28% compared with the first half of 2019, the greatest deterioration of any asset class.
The impact on future CLO issuance throughout 2020 due to COVID-19 is weighted toward the downside. Similar to U.S. CLOs, European CLOs are adapting to the pandemic away from larger pre-COVID-19 structures with longer investment periods. Primary issuance has been coming from pre-COVID-19 warehouses, however, with little supply becoming a growing concern for investors. The drop in CLO demand is further exacerbated by widening spreads, even at the 'AAA' rated CLO level. Additionally, deals are backed by speculative-grade corporate credit, which may be the most-affected financial market.
ABS issuance recorded the only increase in the first half of 2020, to $33 billion, up over 100% from the first half of 2019. ABS issuance in the second quarter of 2020 totaled $27 billion, the highest of any quarter since 2017. Collateral in the second quarter was mostly auto and consumer loan issuance. The sector is also the least likely to face a severe downturn in overall issuance because many ABS subsectors will likely be the first to see an uptick in demand and are partially supported by quantitative easing.
The European RMBS market came in with a strong first quarter, at $27 billion. Issuance was half that in the second quarter, at just $13 billion, bringing the total for the first half of the year to $40 billion. In the first quarter, the sector benefited from the market's adjustment to simple, transparent, and standardized (part of the Securitization Regulation).
The European RMBS market has greater exposure to increasing unemployment rates and implications of payment holidays structures across the region. However, when payment holiday compensation runs out and parts of the workforce cannot find other means of income, delinquencies are expected to rise. Because more than half of European RMBS is bank-originated, there will be a negative supply effect in light of relaunched central bank funding options. Subsequently, the portion of nonbank issuance that is backed by more esoteric collateral is unlikely to return while spreads remain dislocated, especially since they are often backed by lower-quality collateral. However, there's some scope for retained transactions to act as central bank collateral.
Issuance in the CMBS sector in Europe was $1.4 billion in the first half of 2020, compared with $1.6 billion in the first half of 2019. Looking ahead, just as in the U.S., supply is always subject to volatility based on the relative economics of CMBS versus other forms of real estate debt funding. As stay-at-home orders continue to negatively affect the lodging and retail sectors, we expect issuance to decline throughout the year.
In terms of covered bonds, issuance totaled just $99 billion in the first half of 2020, a decline of 36% from the same period last year. Covered bond issuance in 2020 should be only moderately affected by COVID-19, since most is 'AAA' rated and is a safe haven asset class. Still, expanded central bank funding programs could have a negative supply effect, but this is likely counteracted by some investor-placed issuance being substituted with retained issuance.
Greater China Accounts For The Bulk Of Emerging Market New Bond Issuance
The global COVID-19 pandemic-driven recession, massive global fiscal and monetary measures to curb its economic impact, and the decline in borrowing costs for corporate (financial and nonfinancial) issuers have led a surge in corporate bond issuance for many emerging markets. In total, $937 billion has been raised so far across global emerging markets, roughly 81% of which was from Greater China. This compares to $1.5 trillion of new bond issuance in full-year 2019, $1.2 trillion of which was also from Greater China.
Despite the marked rise in corporate debt across emerging markets, global economic growth prospects remain subdued and are likely to curb demand for capital in the second half of 2020, albeit not likely enough to offset the rapid growth of issuance in the U.S. Given the market structure (with bank loans prevailing over bond financing in many parts of emerging markets), financials will likely see issuance tapering less than nonfinancial entities, though capital demand will likely be constrained, despite attractive financing conditions.
Bond issuance since the pandemic began has been reflective of three main factors:
- Low interest rates;
- Early intervention by the People's Bank of China, explicitly supporting bond issuance by financial institutions in China in February (along with other measures around the same time); and
- Strong demand for hard currency issuance due to few low-risk alternatives for investors and an opportunity to hedge against currency depreciation for issuers.
While many markets have recovered somewhat from the sharp shocks in credit spreads at the end of March, it has been uneven. Default prospects for lower-rated issuers, which tend to be prevalent in emerging markets, have risen as many corporations struggle to survive with rising expenditures and dry revenue streams.
Greater China, in particular, has seen first-half 2020 financial issuance as a proportion of full-year 2019's volume exceed the pace in first-half 2019, by about 12%. Subsidiaries of foreign banks in Latin America gave a boost to the figures, with a 29% gain over last year. While nonfinancial issuance is higher in China so far in 2020, most other regions show a slowdown so far in 2020. In the case of China, we anticipate some debt issuances that were needed to meet capital needs this year have already been issued, and expectations for a curbing of issuance may be the result of a synchronization of lower capital needs (through lower GDP expectations) and a slower pace of bond issuance, particularly for nonfinancial corporations.
International Public Finance Ahead Over 20%
Bond issuance from the international public finance sector was down 12% in the first quarter relative to the same period in 2019. But after a tremendous $164 billion total in May, the first half of the year ended up 22% relative to the same period in 2019. Although May was dominated by Chinese issuers, this year's growth has been broad-based across continents and countries.
Data on non-U.S. public finance volume is not reliable for determining the true size of borrowing, but the numbers can suggest major trends. The past four years have recorded the highest volume ever in international public finance, averaging over $627 billion annually.
Other Global Structured Finance
Securitizations and covered bonds outside the U.S. and Europe totaled $90 billion in the first half of 2020, a 13% decline from 2019. Covered bonds reported an increase of 16% year over year, which was offset by a 25% decline in securitizations. Securitizations declined 60% year over year in Australia, 47% in Canada, and 44% in Latin America. However, in Canada, covered bond issuance rose 37% in the first half of 2019, Australian covered bond issuance was down only 17%, and Japan issued no covered bonds. Japan has been the best performer outside the U.S. and Europe, with a midyear securitization total of $30 billion, just off the $32 billion issued in the same period last year.
- The Global Economy Begins A Slow Mend As COVID-19 Eases Unevenly, July 6, 2020
- Latin American Economies Are Last In And Last Out Of The Pandemic, June 30, 2020
- Asia-Pacific Losses Near $3 Trillion As Balance Sheet Recession Looms, June 25, 2020
- Eurozone Economy: The Balancing Act To Recovery, June 25, 2020
- The U.S. Faces A Longer And Slower Climb From The Bottom, June 25, 2020
This report does not constitute a rating action.
|Head Of Ratings Performance Analytics:||Nick W Kraemer, FRM, New York + 1 (212) 438 1698;|
|Head Of Credit Markets Research:||Sudeep K Kesh, New York (1) 212-438-7982;|
|Ratings Performance Analytics:||Zev R Gurwitz, New York (1) 212-438-7128;|
|Kirsten R Mccabe, New York + 1 (212) 438 3196;|
|Jon Palmer, CFA, New York;|
|Director, LCD:||Taron Wade, London (44) 20-7176-3661;|
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