Friday, June 11, 2010

Funding costs fall for US companies

Funding costs fall for US companies
By Aline van Duyn and Nicole Bullock in New York
Copyright The Financial Times Limited 2010
Published: June 10 2010 22:53 | Last updated: June 10 2010 23:10

Borrowing costs for industrial companies in the US have plunged, allowing some groups to pay the lowest interest rates ever on long-term debt.

The decline in funding costs reflects the sharp fall in US Treasury yields amid the surge in demand for low-risk investments as jitters about the eurozone debt crisis have escalated.

For investment-grade companies including Altria, the tobacco maker, Duke Energy, the utility, Abbott Laboratories, the pharmaceuticals group and General Mills, the food manufacturer, it has provided an opportunity to sell bonds with record low interest payments, according to Dealogic.

The interest paid by companies is usually calculated relative to government bond yields.

“All the problems in Europe again caused Treasury yields to fall,” said Allen Carrick, general manager of corporate finance at Duke Energy.

“This created an opportunity for us. We are part of the flight to quality.”

Duke Energy last week sold $450m of 10-year bonds that paid investors a coupon, or interest payment, of 4.3 per cent, the lowest the company has paid for debt of that maturity.

This week, Altria sold bonds due in 2015 paying 4.125 per cent.

The average yields on the bonds of investment-grade industrial companies recently approached 4 per cent, according to the Barclays Capital US Industrial Bond Index, the lowest level since the index was started in the early 1990s.

The 10-year US Treasury bond has fallen to 3.27 per cent from more than 4 per cent in April.

Even though the yield differential, or risk premium, between government bonds and corporate bonds has risen amid the flight to quality, the decline in bond yields has offset that spread increase for some groups.

The all-in funding cost for companies with high credit ratings and stable prospects has therefore remained low or even fallen.

“There is no question that borrowing costs are extremely low,” said Justin D’Ercole, head of Americas investment grade syndicate at Barclays Capital.

For riskier investments, such as junk-rated US companies or European banks, this has not been the case.

Despite the low funding costs, corporate issuance remains light. Many companies have boosted their cash levels since the crisis, and rushed to sell bonds early in the year when economists were predicting that interest rates would rise.

Also, turmoil has resulted in lower levels of mergers and acquisitions.

“There is relatively little new supply of investment-grade corporate debt, so demand for non-financial companies that do come to market is very strong,” said Jim Probert at Bank of America Merrill Lynch.

Some investors are, however, cautious about buying bonds at current levels. Any rise in yields would push down the price of bonds.

“With very low yields, you don’t have a lot of room for error,” Jason Brady, a portfolio manager at Thornburg Investment Management, said.

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