Labour markets continue to cool off
The high yield primary market lay dormant for much of 2022 and the first few months of 2023 as recession talk and significantly higher yields led most companies to pause any issuance plans, particularly with maturity walls remaining largely subdued over the next 18 months. The last few weeks however has seen a resumption of issuance, with issuers using the recent outperformance of high yield compared with investment grade credit, and a strong technical backdrop (limited supply, large cash balances), to refinance and/or bolster cash balances.
We like to look at the types of deals that come to the market, as well as the demand for a deal (measured via an "oversubscription rate", i.e. the size of the order book relative to the size of the deal) and how well it trades on the day of issuance, as a guide to the state of the market at any particular time. This is particularly true in the high yield market given the higher risk nature of the deal flow here – history indicates that high yield is, after all, where the vast majority of defaults happen.
Whilst much of the new deal market has been BB rated (the highest rating within the high yield spectrum) in recent months, the last week or two has seen a sharp increase in lower quality deals with multiple single B deals pricing, and performing well.
Travelodge, for example, an owner of budget hotels within the UK and Europe and rated B3/B-, issued a dual tranche deal last week to refinance their outstanding 2025 bond, in addition to paying a dividend to the shareholders. The deal featured a fixed rate GBP note, the first single B GBP note in over a year, and the 10.75%-11% initial price talk led to a book that was multiple times oversubscribed with final pricing tightening to 10.625%. In addition to Travelodge, we saw Monitchem, a crop science and chemical ingredients group, price a dual tranche deal to refinance their outstanding debt. The company, rated B-/B, priced the fixed tranche with a coupon of 8.75% (in euros), with the bonds rising to 101.375 immediately after pricing. Furthermore, we have seen a number of single B deals that have launched this morning.
Whilst we have been using the relative strength in the high yield market in recent months to de-risk portfolios given the weakening macro environment (spreads in the mid-400s for the euro and USD high yield indices look less attractive than other sectors, like financials and CLOs in our opinion), the demand seen in recent deals still points to a market that is relatively buoyant. Strong corporate balance sheets and limited refinancing needs leads us to have an optimistic view on default rates, with the recent ease at which “lower quality” deals have been able to print further confirming this view.