If the worm is turning, will it slither over you? Inflows for high yield bond funds have reversed after totaling a record $70 billion in the first 10 months of the year. In November, some $2.8 billion fled the funds, according to EPFR Global. If this marks the end of the high yield bond and leveraged loan rallies, it could unmask zombie companies that have been “extending and pretending”. Fitch thinks some will default for the second time after having been inadequately restructured in the aftermath of the financial crisis.
While serial defaulters are a potential problem in the US – Fitch says 50 of the borrowers in its high yield default index have defaulted twice or more since 2000 – the rating firm is raising the alarm over Europe, where it believes the problem will be more widespread.
How do you know if you’re working for a potential double defaulting zombie? The main candidates are companies that went through so-called “light restructurings” in 2010. These involved injections of equity and the loosening of covenants, rather than large debt write-downs or interest burden reductions.
If you work for a zombie, you may be able to shamble on for another year or so, Fitch notes. “Many of the weakest borrowers in Europe may be forced to write off a substantial part of their existing debt when they reach their refinancing deadline, which for a large number of borrowers is 2014,” the firm’s analysts write. But the end is near nonetheless. “The absence of a primary loan market in Europe for the low-credit quality borrowers means we expect them to find refinancing challenging.”