First things first: Investor desperation for yield, any discernible yield no matter what the risks, and blind confidence that all this will work out somehow are waning.
Now questions pop up here and there, and investors are beginning to open their eyes just a tad amid waves of defaults and bankruptcies, after years of worriless fixed-income bliss during which cheap new money made investors forgive and forget all sins of the past. But now investors are pulling big chunks of money out.
For the week ended June 17, investors yanked “a whopping” $2.9 billion out of junk bond funds, according to S&P Capital IQ/ LCD’s HighYieldBond.com, on top of the $2.6 billion they’d yanked out in the prior week. Those redemptions dragged down the year-to-date inflows to $3.6 billion, nearly 40% below last year at this time. But $201.5 billion remain in those funds.
Leveraged-loan funds have been plagued by outflows as investors have been warned for a couple of years about their risks. Banks extend high-risk loans to over-indebted, junk-rated companies but don’t want to keep these iffy loans on their books. So they sell them to loan funds or repackage them into CLOs and then sell them. Even the Fed has gotten concerned. This week brought more of the same, with $311 million leaving leveraged-loan funds, bringing year-to-date outflows to $3.6 billion. Total fund assets are now down to $94 billion.
On the investment-grade side, it didn’t look pretty either. Business Insider cited Bank of America Merrill Lynch strategists: “High grade credit funds suffered their biggest outflow this year, and double the previous week.” The biggest outflows since the Taper Tantrum in June 2013. There was more doom and gloom:
However, government bond funds suffered the most amid the recent spike in volatility, with outflows surging to the highest weekly number on record ($2.7bn). This brings the total outflow from fixed income funds to almost $6bn over the last week, the highest since the Taper Tantrum and the third highest outflow ever.”
Why the sudden bouts caution?
The Fed? Maybe not. The Fed’s cacophony about raising rates keeps pushing that point further out into the future. Voices are clamoring for many more years of easy money, and some promote the idea that rates should never rise, or could never rise, in any significant manner, or to what might have been considered more normal levels a decade ago, because, after six years of these ingenious easy-money polices, businesses, governments, and consumers have taken on so much debt that higher rates would bankrupt them.
Besides, when or if the Fed finally has what it takes to raise the rates, it would go from nothing to nearly nothing very slowly, as Fed gurus explain relentlessly. So not all that much to be spooked about.
Or could the public anxieties about liquidity have spooked investors into selling their bond funds? The idea would be to sell while there is still liquidity. When the real selling starts, liquidity dries up, and then it’s too late. Once prices have dropped enough, liquidity magically returns. Not a promising thought for investors sitting on a ton of bonds.
But there is another reason: a nerve-wracking wave of corporate defaults and bankruptcies. And not all are in the energy sector.
Late Thursday, oil-and-gas producer Saratoga Resources, which has had two bond issues in default, filed for Chapter 11 bankruptcy protection, blaming a variety of operating issues, an arbitration award against the company, and the plunge in oil and gas prices. It’s the second time Saratoga has danced to this tune. It had previously filed for Chapter 11 in March 2009.
In these cases, stockholders get wiped out, unsecured creditors get to fight over some leftover scraps, and secured creditors get much of the company or its assets.
On Wednesday, drilling-services company Hercules Offshore announced that it had entered into a restructuring agreement with a noteholder group and expected a “prepackaged” Chapter 11 bankruptcy filing.
Boomerang Tube, which makes steel pipes for the oil and gas sector, filed last week. A number of other companies in the energy sector have filed bankruptcy so far this year, including: American Eagle Energy, Quicksilver Resources, Dune Energy, Endeavour International, Cal Dive, and BPZ Resources.
Among the bankrupt coal producers, pushed to the brink by the low price of natural gas, are Patriot Coal, also for the second time, and Xinergy.
Bankruptcy filings are also piling up outside the energy sector: a few days ago, Colt Defense filed. There was Radio Shack, Caesars Entertainment, cookware marketer EveryWare Global, auto-component manufacturer Chassix Holdings, software developer Allen Systems Group, and security firm Altegrity, which became famous for putting its stamp of approval on former NSA contractor Edward Snowden.
So far this year, 20 public companies with pre-petition assets of $150 million or higher have filed for bankruptcy, according to BankruptcyData.com.
Other companies have skipped interest payments, or are deemed to have defaulted on their debts. They have threatened their creditors with a bankruptcy filing if negotiations to restructure their debts don’t bear fruit. Among them is former rare-earths highflyer and hype-magnet Molycorp, which skipped another interest payment on Tuesday. It’s negotiating with its creditors. The way its bonds are trading, bankruptcy is next.
On Monday, Sabine Oil & Gas failed to make a $21-million coupon payment to holders of $578 million in debt that it assumed after its merger with Forest Oil. Walter Energy, with $3 billion in liabilities, may file for bankruptcy later in June if negotiations with its creditors don’t work out. Etc., etc.
And these are the good times! Interest rates are still extraordinarily low, even on junk debt, though they have ticked up a smidgen. Money is still sloshing through the system looking for a place to go. Investors still close their eyes to risk, as the Fed has bamboozled them into doing for the past six years. Companies are selling more bonds than ever to fund financial engineering projects. Oil is still trading at around $60 a barrel. Stocks are near all-time highs. As if there were practically nothing on the horizon to worry about.
But there are rumblings on the horizon for the oil and gas sector. A miracle could stop them, but miracles have become rare. Read… Biggest Glut in Recorded Crude-Oil History Taking Shape
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of course, trusting the fed will work, that is until it does not
Trusting an organization that hasn’t even identified what “went wrong” (at least not publicly) and an organization whose resolution to the problems is nothing but more problems…
Wolf, be glad to hear your thoughts here or in a future article on what I believe is the primary cause of breakdown and the reason we can’t “grow” our way out of this (link below).
http://econimica.blogspot.com/2015/06/0ne-simple-chart-explains-great.html
Think anything will happen that will force the fed to raise rates fast? Might be like 2005-2007 then.
Or do you think the fed wi be forced to be too dovish and we get a new kind of meltdown?
(2005-2007 fed forced to be very hawkish because of inflation, helped popped housing and mortgage bubble.)
One guy in the comments section was sure that the Fed would raise rates for sure in the September timeframe, but I would still bet QE4 in September. IF QE4 actually happens, the next time the Fed raises rates is to defend the US currency …..
Just got out of a movie with my 10 year old.
Was surprised to see “US Navy” ads.
Are they planning to recruit?
The Navy ads serve two purposes:
1. recruitment, which is evergreen, and;
2. thought positioning, to highlight the extent of US Navy bases around the world. That is to assure viewers about our presence to calm fears about sundry regional issues like the Persian Gulf or the South China Sea.
This is the slow bloodletting in the shale patch the Saudi and the Russians were aiming to when they took the occasion of plunging oil prices to wage war on US and Canadian fracking outfits.
Everything is happening slow, steady and under the political radar: an offshore driller here, a pipe manufacturer there… Washington doesn’t pay attention because the only indicators it cares about are the S&P500 and the NASDAQ composite. The armored cars won’t rush into the oil patch loaded with freshly printed money until it’s too late.
These bankruptcies are having one consequence even Janet “Financial Repression From Here To Eternity” Yellen can do nothing about: those investors driven mad by the scramble for yield are slowly regaining their senses and rediscovering risk. Right now they content themselves with a blip in interest rates but one blip a week can become 1% in less than two months. It may not sound like much but given leverage ratios and stagnating or decreasing cash flows it actually means a lot: a BBB rated outfit paying 2% on a half a billion bond issue can see servicing costs go from $10 million to $15 million without noticing.
This also means the costs of starting a new venture rise exponentially: assets of bankrupted companies may be scooped up by secured creditors and those with the liquidity to take part in the fire sale but it will become far more expensive for new pipe makers and drillers to enter the fray.
Now, on the margin, Colt Defense. With war everywhere and Uncle Sam sending weapons around the world like they were Christmas cards, it’s pretty mind bending such an important defense contractor had to enter Chapter 11. The contract to manufacture rifles for the DoD ran out in 2013 and, despite strenuous lobbying, it hasn’t been renewed: apparently the Pentagon has enough light weapons in its arsenals left over from the post-2001 buying frenzy to fight a couple of world wars.
Still, it speaks volumes of how badly run defense contractors are in general: with the cash flow Colt had in those years they could if not prosper (defense is expensive business) at least build a nest egg for rocky times. Sometimes the world grows tired of war. Yet this was an eventuality Colt management didn’t contemplate.
It’s good to see the market work isn’t it? Skillfully sorting out bad investments and directing capital to the good ones. Punishing bad actors and rewarding the good. Free market capitalism performing at its best, as promised.
I am beginning to think my econ profs lied. That, or I slept in class too much.
It does seem like the “invisible hand” is about to do some serious bitchslapping.
I believe at the moment the “Invisible Hand” is giving most of us the middle finger salute.
Nicely put, Night Train. Or in the vernacular of Pat Frank, “Alas, Babylon!”