Major US firms seek other funding methods with rate incline
Highly rated U.S. companies have started issuing bonds that convert to shares as a way to raise more money this year, according to Reuters reported on Monday.
The move is what bankers called “a shift in a market that has long been dominated by companies with few options to raise money”.
The companies have been avoiding these convertible securities as they risk giving away shares at a discount to the market price, by which lowering the value of their stock. The companies have found before that they can increase funds in a cheap way by investment grade bond markets.
Two highly rated companies, PPL Corp and Southern Co, were the first in 20 years to raise a total of $2.4 billion with convertible bonds during the past week. The companies were able to issue the securities at lower interest rates than what they would have to pay on bonds.
Investment grade companies lead to a boost in convertible bonds issuance volumes to $8.5 billion, making the market reach $70 billion this year, which is double the amount raised in 2022, and matching rates of the previous years, a banker said.
Investment grade companies promised to make 2023 a breakout year relative to 2022 for convertible bond issuance, said co-head of equity capital markets at Wells Fargo, Craig McCracken.
The entry of investment grade companies in the convertible bond market shows that the US Federal Reserve’s rapid interest rate hikes in a way to control inflation have led to inconsistencies in the marketplace, according to Reuters.
These companies have been preferring convertible bond to raise money in light of the uncertainty in the sector, in addition to last year’s change in an accounting rule, which made it less expensive for them to issue bonds, said experts.
“Convertibles are the cheapest available financing for both high-yield and high-grade issuers right now,” said Josh Schaeffer, a managing director at accounting firm, Equity Methods.
Investors bought PPL’s convertible bond at 100 cents on the dollar earlier this week, the bond was trading at 101 cents on Friday, Reuters reported.
Investors were betting on the company’s share appreciation, according to portfolio manager at Wellesley Asset Management, Howard Needle, which bought the bond.
Potential returns for investors in convertible bonds could increase, as defensive stocks like utilities could benefit if interest rates keep hiking, which can make the bonds attractive to those companies with them being confident with the success of their offerings.
Investment grade companies in other sectors on the other hand would not turn to the convertible bond market, as their stock prices suffer with rate increases, especially because their product is not attractive to investors.
PPL has been able to raise $900 million with a five-year convertible bond, which paid a 2.875 percent coupon, while Southerner’s 2.75-year bond pay 3.875 percent, and both are lower than the average company bond yield of 5.48 percent.
Convertibles have become more interesting to high-rated companies, as a result of an accounting change in 2022, as well as the benefit of cost savings.
A US accounting rule previously required companies issuing convertibles to add a hypothetical interest expense on the bond, which added to the cost of issuance, but the rule was eliminated last year.
Economic resilience in the face of the Fed’s campaign in recent weeks has been a part of the uncertainty about the stock market and interest rates’ fate in the upcoming months.
