2015 GLOBAL MARKET OUTLOOK PRESS BRIEFING WEDNESDAY, NOVEMBER 19, 2014

Transcription

1 2015 GLOBAL MARKET OUTLOOK PRESS BRIEFING WEDNESDAY, NOVEMBER 19, 2014 MR. VASELKIV: Good morning, everyone. High yield investors are about to celebrate the sixth anniversary of what's been the most profitable and rewarding cycle in the history of our asset class. And the burning question on our clients' minds throughout 2015 is how long can this bull market continue? Sadly, in many respects, we have become victims of our own success. Today the high yield market is described as a very crowded trade where a lot of short-term tourist type investors are competing against longer term permanent residents for what we see as an increasingly scarce supply of appropriately priced merchandise. And I think in many respects the high yield market has lost the ability to appropriately price risk. If you look at our first graph today, the takeaway here is that many high quality companies in our universe can issue 7 to 10-year bonds at between 5 and 5 and a half percent, and in our estimation frankly, we find the economics of those transactions generally unappealing, unless those companies are headed back towards an investment grade credit rating. To succeed in the future and to continue generating strong absolute returns, we believe that high yield managers will need to cast a wider net in search of opportunities. The wider net has important global implications and the foundation to the concept is an allocation to European high yield debt. If you look at the left side of our next slide here you can see that the European high yield market has grown dramatically in the last five years. The key dynamic here is that there's been a major change in the regulatory regime for financial institutions. Historically, European below investment grade corporations would typically borrow from their banks at very attractive interest rates. Today, that's no longer possible, so these same companies are forced into the securities markets to develop sources of longer term capital. On the right side of the page, you can see that the European market today is about 40 percent of the U.S. high yield market in size. I think the key takeaway for us has been that once investors cut through the macro fog of Europe and some of the doomsday scenarios related to Eurozone, good research analysts Page 1 of 6

2 can identify world class companies that issue bonds at compelling valuations. By focusing on defensive sectors, like cable television and wireless communications, we have been able to buy securities that issue bonds at higher coupons and better spreads than their U.S. counterparts. Similarly the emerging markets corporate world has seen explosive growth, in fact even more dynamic than European high yield. And managers with strong global research capabilities can do an excellent job in finding the opportunities in the emerging markets. Well, frankly this is not a strategy for the faint of heart. Volatility can be extreme. Liquidity, as we've already heard, is often challenged. Transparency in many companies in the emerging markets is not as good as what we see in the United States, and in a minute I'd like to share with you two examples of what we consider to be world class corporations operating in the scary zones of Argentina and Russia. To look at this theme from 30,000 feet today, we see the global below investment credit markets approaching nearly 5 trillion dollars in size, when you add together U.S. high yield, U.S. leveraged loans, European high yield and loans, and emerging corporates. Compare that to Y2K at the turn of the century when below investment grade was generally about a trillion dollar universe, and it was very distinctively domestic in its focus. And one other way to look at this from a top down standpoint is to see how benchmarks have been evolving over the last two years. This is a snapshot of the Bank of America global high yield index. Today that benchmark breaks down about 56 percent U.S., 28 percent Europe, and 15 percent emerging markets corporates. Keep in mind that ultimately high yield is about the power of compounded interest over long periods of time. So investors that have long-term horizons typically do very well in this world. Again to emphasize the point, isn't it surprising that European high yield over the last 10 years in the light blue bar has actually outperformed U.S. high yield for the past decade? Emerging markets corporates have lagged to a degree, but that's where we see a lot of opportunities. Page 2 of 6

3 I'd like to spend the remaining couple of minutes sharing with you three case studies of global high yield companies that we find compelling to reinforce some of our points. The first company is Altice. Three years ago this cable, wireless, and broadband company was primarily focused in Israel and the Caribbean. It had a distinctively emerging flavor to it. This year the company completed a transformational acquisition of Vivendi's French wireless assets, and as a result of that transaction they issued the largest European high yield bond offering in the history of the asset class. It was 16 billion dollars total in a multi tranche, multi currency deal, both U.S. dollar and Euro. The company also went public this year in an IPO. In January, they IPO'd at $28 a share. Today the stock trades at 48 Euro per share. Recently, the company announced that they would like to acquire Portugal Telecommunications for 7 billion dollars. If they are successful, the company would have to issue an additional 5 billion dollars of high yield debt, and we believe that in today's market to price that deal and to clear effectively the pricing on that deal would be about 7 and a half percent. Compare that with U.S. based Charter Communications which is a wellregarded U.S. cable company. Charter's 10-year bonds today trade at 5 percent, and Charter has higher leverage ratios than Altice. Let's move to Argentina one more time for the third time this morning. YPF is the dominant quasi owned/ quasi sovereign energy company in Argentina. It's a world class business. It's 49 percent owned by the government of Argentina, but 51 percent by public shareholders. The market has assigned a capitalization of 20 billion dollars to this company, and that's 20 billion dollars of equity that sits below 5 billion dollars of long-term debt, so this is a very, very strong balance sheet. Yet because of its domicile and the sovereign default and uncertainty over the election coming up, YPF's 2024 bonds trade at 8 and a half percent yield to maturity. Now, compare that with U.S. based energy double B rated bonds that today are 5 and a half to 6 percent, and every one of those companies is a fraction of the size of YPF's billion barrels of oil reserves and 300,000 barrels of production per day. Finally, a little bit more of a controversial story, Sberbank. Sberbank is one of the largest banks in eastern Europe and the Page 3 of 6

4 largest bank in Russia. Sberbank holds today 23 percent of all the retail deposits in the country of Russia. Given the geopolitical uncertainty and conflict between Russia and Ukraine, Sberbank's 10-year bonds have traded down to 85 cents on the dollar, again an 8 percent yield in a 6 percent world for U.S. high yield. Just to close and share a couple of points, in summary, I think some of my themes are consistent with my colleagues. First we believe that demand for higher yielding income strategies in a low interest rate world will remain robust for the foreseeable future. Two, valuations for higher rated U.S. high yield credit generally are unappealing today given the imbalance between supply and demand. Three, trust your credit managers to find compelling opportunities overseas in Europe and the emerging world only if those teams have substantial equity and fixed income research capabilities around the globe. There is simply no substitute for boots on the ground. Finally, we believe that courageous value oriented investors with long-term investment horizons will be able to ride through periodic bouts of intense volatility and ultimately thrive in increasingly global credit markets. And we are done and we'll take questions from the audience. Page 4 of 6

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