Creditflux Newsletter

Wolseley is looking forward to the holiday season providing a break from the frequent frustrating calls with investors looking for distressed opportunities in European credit markets.

We all know that the European banking system is in the midst of a painful process of deleveraging. That means fewer new loans, disposal of loans and other assets already on the balance sheet, and more capital. And for the distressed community that translates as “cheap assets for sale”.

Wolseley has spent a lot of the fall explaining to salivating but frustrated investors that it’s not that simple. Do you know any bank that would be happy to describe itself as a distressed seller? Neither do I. Deleveraging institutions have a series of choices and at the point when they realise they might be selling to funds named Shark, Sabre Tooth or Piranha they pause and consider them.

Where these conversations get interesting is when we move on to talk about other ways of deleveraging. When a treasurer decides not to sell a portfolio at a 20% yield what do they do instead? Raise capital. And how? Often by buying back their own subordinated bonds. What do SNS, Santander, BNP, Soc Gen, Nationwide, Northern Rock and Bradford and Bingley all have in common? You guessed it: they have all bought back their own bonds in the last few months.

New, more rigorous BIS rules designate many types of bank-issued subordinated bonds as “non loss-absorbing”, so their contribution to capital ratios is reduced. What was once cheap subordinated debt for issuers is now expensive senior debt. By buying back these bonds, banks improve the efficiency of their capital structure. Where the bonds are being bought back at a discount to par, the discount realised is crystallised as core equity, thus boosting the bank’s capital ratio. While the vultures go hungry as they circle a much promised, much delayed distressed sale, the few investors focused on the liability side of banks’ balance sheets are getting fat on the premiums paid to buy back bond issues.

The opportunity won’t last forever though, and it is logical to expect premiums to decline, perhaps as some of the vultures change tack.

Wolseley has found that expert leveragers of yesteryear are finding useful employment in Westminster, Washington and Brussels.

In a meeting to discuss credit easing with UK government officials he was introduced to a former Deutsche Bank CDO salesman and a former Merrill CDO structurer, who were advising the chancellor and the business secretary.

I suppose we should be happy that ministers are taking advice from experts when it comes to getting some leverage into the economy, whether it’s credit easing or leveraging the European Financial Stability Facility. But it is very amusing to hear these professionals opine: “The government is very keen to avoid the use of structured credit techniques.” So that’s why it hired you then!

As banks delever and governments re-lever Wolseley salutes one constant in the credit market: Rick McVey of MarketAxess take a bow.

Through two cycles of boom and bust Rick and his team have stuck to a simple business model and a simple approach. At times it looked like we had left them behind and the valuation of the company – at one point little more than the cash on its balance sheet – reflected that. But Rick stuck to his plan and today he has an important position in our market. Hard work and perseverance really do pay.