The Olympics: An Inflection Point In Leveraged Finance?

By Richard Coons

Many of us in leveraged finance will no doubt spend some time this month watching the 24/7 coverage of the Olympics in Beijing, especially as it appears that August may qualify as the slowest month the leveraged finance markets have seen in 18 years or so.

We might consider that this extraordinary Olympics in China is a culmination of 30 years of economic growth, which began with the country’s liberalizing economic reforms in the late 1970s. China has spent $42 billion on this Olympics, according to The Wall Street Journal. And it has spent $10.5 billion on environmental cleanup, as well as closed myriad factories and sidelined other economic activities in order to clean up Beijing’s notoriously dirty skies. Untold billions have also been spent in the last eight years on infrastructure for highways and airports to prepare for this culminating two-week coming-out party.

All these billions of buildup may represent a huge inflection point, similar to others we’ve seen in recent history, in China’s and thus the world’s economy.

In the late 1990s, for example, the U.S. and EU spent billions on technology, and governments fed liquidity, in anticipation of Y2K. The tech boom boosted the Nasdaq to 4700 on Feb. 29, 2000. However, after all of this investment, the tech juggernaut wrecked and the index fell to 1860 one year later, eventually sliding to a low of 1172. Bonds in tech sectors that had been above par were worth pennies.

Commodities and Chinese securities might now be poised to see a similar decline. China’s Olympics expenditures, along with demand from consumers in the U.S. and EU for its products, have spurred the country’s transformation into the world’s leading buyer of commodities. China’s leap in commodity consumption, along with the spike in energy prices, has caused the asset class to spike by 4x to 5x compared with historical prices.

Thus, because the Chinese economic engine now shows clear signs of stalling and will likely not see the double-digit growth of the last eight years again for several years in the future, commodities such as iron ore, copper and nickel will recede considerably, as will oil, further than the 20% it has already fallen since July 11.

Moreover, it has been pointed out in a Stratfor (http://www.stratfor.com/) piece from July 28 that Chinese national strategy has been to encourage investment in China in part by allowing unfettered movement of personnel in and out of the country. But now that the Olympics are upon us, the government has effectively frozen most financial reform plans and created bureaucratic impediments to business visas in the interest of security. Stratfor believes that the authoritarian Chinese government is in crisis and now interested foremost in reinforcing their hegemony over the growing coastal economies, even at the expense of economic growth.

As leveraged credit managers, we should be concerned about our exposure and weightings in credits trading at extremes in the metal sectors, as well as many manufacturing enterprises in the BRIC economies that supply worldwide consumer goods demand. We could very well be at an inflection point similar to those seen in early 2000 and 2007 in developed economies.

Richard Coons is the founder of Catrock Capital Management.

Recent Posts

Investors Win Warner Chilcott Battle, But Expect a War

Investors this week pushed back on Warner Chilcott’s attempt to reduce pricing on its $1.95 billion term loan B, but most don’t believe the market’s repricing fight is over...

Bad Buyouts and What We Could Do about Them

Allied Stores. Burlington Industries. Charter Medical. E-H Holdings. Federated Department Stores… These companies are among the 13 that, between 1985 and 1989, issued a billion or more in junk bonds to help fund a buyout—then promptly went bankrupt...

A Repeat of 2009 Returns? Not. But No Disasters Either

As we here at Leveraged Finance News join you in saying goodbye to 2009 and looking ahead at the year to come, two little words spring to mind: do over? Maybe not all of it, but certainly returns...

Cha-Ching! High Yield Brings High Bonuses

While returns in the 40% to 50% range portend a 2009 Grinch-free holiday season for most leveraged loan and high yield bond professionals, those dedicated to selling and trading junk bonds are on track to receive the highest bonuses...

Index of Posts

0 Comments