The debt market in Tel Aviv is starting to send out distress signals. The value of corporate bonds traded at double-digit yields, a level at which the companies concerned can no longer recycle debt on the stock exchange, exceeds NIS 18 billion. Nearly 50 bonds, 8% of total corporate debt, are traded at double-digit yields, but for the time being senior market players believe that this is still a matter of isolated problems at certain companies.
Nearly 750 corporate bonds are listed on the Tel Aviv Stock Exchange, almost 50 of them traded at double-digit yields, to which should be added index-linked bonds at high single-digit yields, which, when linkage to inflation is factored in, join the dubious list.
The TelBond 20 Index, which comprises the twenty largest bond issues on the stock exchange, has fallen 9.7% this year, and its implied yield has risen to 2.6%. At the beginning of the year, the implied yield was minus 1%.
The yield on the TelBond Global Index, which comprises the thirty bonds of the US-based income producing real estate companies traded in Tel Aviv, has risen even more sharply. These companies are considered risky because of slack corporate governance and because of their activity in the US, where the real estate market is becoming more and more problematic. The yield on the TelBond Global Index is currently 8.4%. At the beginning of the year, it was under 4%. Four of the thirty bonds in the index are traded at double-digit yields.
The standout event on the debt market came on Sunday this week when credit rating company Midroog announced a sharp downgrade for commercial centers company G City (formerly Gazit Globe), controlled and managed by Chaim Katzman. The company’s debt was downgraded by two ratings at once, from A1 to A3 (equivalent to a downgrade from A+ to A- on S&P’s scale), while the rating outlook remains "Negative", which could mean further downgrades on the way.
G City owns properties around the world, some of them in Brazil and in Eastern Europe, that are suffering from the upsets of the post-Covid period. Midroog explains that the downgrade stems from a weakening in the company’s financial profile, saying, "The rise in interest rates in the past year against a background of rising inflation is putting pressure on the values of real estate assets at this time and in the medium term. This environment casts a cloud over the company’s plans for extensive asset sales. The business environment is negatively affected by the company’s activity in Brazil, which is characterized by weak macro-economic conditions."
Who needs bonds when there are bank deposits?
G City’s six traded bond series responded with price falls, and their yields are now mostly in double figures. The highest yield to maturity is on the series 12 bond, at 17%. In January, this bond was traded at a yield to maturity of under 0.7%. The company’s share price has also slumped, by more than 53% this year, while the share price of parent company Norstar has had a similar fall, and its two bond series have reached yields to maturity of 32% and 42%.
"As soon as a bank deposit gives 4%, it’s almost natural that index-linked bonds should reach yields of 8% and northwards, even without the companies being in substantial difficulties," says a veteran underwriter well versed in the market’s ways. "The worse the economic slowdown becomes, the more there will be companies that will have difficulty in repaying their debt or in raising new debt. The difficulties are starting to emerge, but it is still not a liquidity crisis."
It’s not just real estate companies that are suffering
Among the bonds with double-digit yields are many of those issued by US companies suffering from the state of the US real estate market. Nobel Assets, for example, which is in the residential rentals market in New York, has a 17% yield on its Series A bond. But there are also companies such as Space Communication, which provides satellite communications services and is in negotiations for its sale to a Hungarian company, and whose Series 16 bond is traded at a yield of 28%. Another company not in real estate but with a bond traded at a high yield is renewable energy company Prime Energy: with sentiment towards the sector negative, its B Series bond is traded at a yield of 16%.
"There’s has been clear trend of widening spreads (between corporate bonds and equivalent government bonds, H. S.) recently," says Bank Leumi senior fixed income analyst David Reznik. "This trend stems from weakness in world financial markets, and lately in Israel too. The local market is showing weakness, not just in share prices but also in government bonds, and the corporate bond market has not avoided it."
"Of course the risk level has risen," a source at one of the financial institutions told "Globes". "We’re seeing that on the ground. Companies with higher leverage are finding things difficult. The difficulties are mainly in real estate and non-bank financing, where yields are headed into double figures and northwards. We have seen cancelled offerings recently. On the other hand, there’s a very open and extensive banking and finance system. Good companies with the right business and good assets are having no problem raising money, and they can obtain bank finance as well.
"In my view, we are still not in a liquidity crisis. If there are failures, they are very isolated, really a company here and there. On the other hand, there’s no doubt that the banks and financial institutions will demand collateral from now on. The debt market will continue to work in 2023. According to the forecasts for next year, the Israeli economy will grow at about 3%, less than this year, and so there will be something of a slowdown. In the US, there will be a soft landing. Interest rates there will climb to 5-5.5%. In the second half od 2023, interest rates are expected to fall again, if inflation indeed slows and falls in the coming months."
"The situation is worse overseas than in Israel," another source said, "because the multiples at which companies were traded before the period of interest rate hikes were inflated, much more than in Israel. The current wave of rises in yields hurts the market of course, but it’s much tougher in Europe and the US."
What will happen in Israel?
"There’s no doubt that in Israel we will feel the shocks of the global wave, but the effect on the companies themselves will be nothing like what is happening in other countries. In real estate, the difficulties at technology companies will perhaps lead to a slowdown in demand at office space developers.
"Company finance costs have risen, but that comes after an excellent decade. Many companies reached the current situation with a safety cushion. Those coming unprepared will suffer more. Still, the price of the hit from higher interest rates is insignificant in relation to the rise in home values in the past two years. Contractors will want to take into account higher finance costs in the cost of a project, and that will lead to a drop in the price of land. I estimate that every company focused on the Israeli market will see stability in its business and will be able to negotiate the situation that has come about."
Published by Globes, Israel business news - en.globes.co.il - on December 27, 2022.
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