First, BHP Billiton [ASX:BHP]’s debt was cut to negative by ratings agency Standard & Poor’s (S&P) this week. It went from A+ to A. The Melbourne-based miner reports full-year results on 23 February. S&P said poor results could result in a further downgrade. The cost of insuring BHP bonds against default have jumped, as you can see from the Bloomberg chart below.
|Click to enlarge|
What’s bad for BHP won’t be good news for the rest of the London-listed miners. Rio Tinto may be the exception. Alex Williams from MoneyWeek magazine pointed out this morning that Rio Tinto’s been paying down debt and, as the low cost producer in iron ore, can stand the pain. BHP?
The trouble for the ‘Big Australian’ is that it diversified its asset portfolio during the boom, especially into energy. It overpaid for shale gas assets in the US. That’s costing it now. And it may cost shareholders their dividends. Alex will have more when we record tomorrow’s podcast.
For companies like BHP and Anglo American, the spike in credit default swaps (CDS) would be worrisome. They’re not likely to be borrowing a lot of money anytime soon. But it’s part of the capital flight story from China. As China goes, so go the commodity producers and big miners.
Negative yields on corporate bonds
There are over $5.5 trillion in government bonds now with a negative yield, according to data published by the Financial Times last week. That’s a combination of ‘big money’ front running bond buying by central banks and the $750 billion in capital leaving emerging markets. The money has to go somewhere, doesn’t it?
In Germany, two-year and five-year government bond yields are negative. Swiss ten-year yields are also negative. Japan cancelled a ten-year bond auction yesterday after the Bank of Japan took interest rates negative. The world has been turned upside down by Haruhiko Kuroda.
As strange as it is that investors—or people who call themselves investors—are paying governments to loan the money, it would be even stranger if corporate bond yields went negative. It’s certainly possible, in theory. As sovereign yields have fallen, corporates haven’t been far behind.
But would you really pay interest on money you loaned to a corporation? And what would the corporates do with the borrowed money anyway? Buy back their own shares?
|Source: StockChartsClick to enlarge|
The chart above shows the NYSE-listed high-yield corporate bond exchange traded fund. What do you notice? I notice that Wall Street’s timing for offering new product is a good indicator of the credit cycle. It launched a high-yield bond fund just as the credit crisis bloomed.
But there was tremendous momentum to crowd into high yield when the Federal Reserve commenced its beefed-up bond buying program in 2009. And now?
Notice that volume (the red and black lines below) has picked up since late last year. The momentum is down. But it’s not a screamer yet.
It sets up an interesting question, though: if you’re capital in flight seeking safety, are you more likely to end up in high-yield corporate bonds or blue chip consumer cyclicals in the stock market? Charlie Morris and I talked about that yesterday. He’s constructing the ‘Soda’ portion of The Fleet Street Letter Portfolio. That goes out later this week.
In the meantime, if you’re looking for out of left field ideas, try this one on for size: sovereign bond defaults. Central banks are ‘all in’ on their bet with negative interest rates and quantitative easing (QE). If they fail, they take either their currencies with them or government bond markets. Or both.
The ‘divine move’
Keep working on your ‘divine move’ to escape this mess. I’ve been reading more about the game of Go. The more I read, the clearer it becomes that you want to put yourself in a position where you’re not at the mercy of financial events beyond your control. Having no debt helps. Owning tangible assets helps. And owning assets that can’t be digitised and deleted (cash) helps. What’s left? Keep thinking…
Ed Note: This is an excerpt of an article originally published in Capital and Conflict.
From the Port Phillip Publishing Library
Special Report: The biggest stock gains can come from the least likely places. While the ASX fell 9% in the 12 months to November 2015, one tiny, hated mining stock soared 1,200%. What seemed like an ugly, bad investment quickly transformed every $5,000 worth of shares into $65,000. This is the power of ‘10-bagger’ companies. Where will the next one come from? Read Greg Canavan’s special Crisis & Opportunity presentation to find out…[more]