Financial thoughts

Corporate bond sales fell in Europe for the first time since 2002 this year as companies abandoned borrowing because of soaring interest costs.

Sales slumped to 285 billion euros ($417 billion) in the last six months from 616 billion euros in the first half, reducing the total for the year by 3 percent from 2006, according to data compiled by Bloomberg. Companies with ratings below investment grade haven’t sold any bonds in euros or pounds since August, the longest shutdown in at least nine years.

“I’ve been in this business for 20 years and never seen anything as bad as this,” said Eirik Winter, co-head of fixed income capital markets in London for Citigroup Inc., the third- biggest underwriter of corporate bonds sold in Europe. “We’re going to feel 2007 for a long time.”

Companies from Carphone Warehouse Group Plc in London, Europe’s largest mobile-phone retailer, to Rotterdam-based steelmaker Arcelor Mittal canceled deals as contagion from losses on U.S. mortgage securities pushed borrowing costs to a five-year high. European bondholders are demanding 120 basis points in extra yield to buy investment-grade corporate bonds, more than double the 51 basis-point premium over government debt in July, according to Merrill Lynch & Co. indexes.

GlaxoSmithKline Plc, the world’s largest producer of HIV medicines, sold 3.5 billion euros of five- and 10-year bonds on Dec. 4 at yields as high as 115 basis points over the benchmark midswap rate. That’s five times the spread on similar debt it sold two years ago, Bloomberg data show. The London-based company is rated A1 by Moody’s Investors Service, the fifth- highest investment-grade ranking, and two steps higher at AA by Standard & Poor’s.

High-Yield Drought

“Many corporates thought the subprime issue wasn’t going to hit them because they’re good companies with good ratings,” Citigroup’s Winter said. “Now, most treasurers would admit that we have a completely different credit market out there.”

Power producer InterGen, the last company to sell debt ranked below investment grade to European investors, had to raise the yield it was offering twice to attract enough buyers for the $1.88 billion of notes. The biggest part of the deal was 200 million pounds ($397 million) of 9.5 percent notes sold at a discount to yield 429 basis points more than U.K. government bonds. The Burlington, Massachusetts-based company is rated BB- by S&P, three steps below investment grade.

Securities ranked below Baa3 by Moody’s and BBB- by S&P are considered high-risk, high-yield, and are known as junk bonds.

2008 Outlook

Until June, investors showed more confidence in corporate credit quality than at any time in at least three years, spurred on by record profits payday loan. The Markit iTraxx Europe index, a benchmark for the cost of protecting European investment-grade bonds from default, dropped to 19 basis points, the lowest since the index began in 2004.

The cost of debt insurance started rising in mid-June after New York-based Bear Stearns Cos. reported subprime losses on two hedge funds it managed. The iTraxx Europe index soared to a high of 66 basis points on July 30, and was at 50.5 basis points today.

“It was a year of two halves, the contrast couldn’t have been more pronounced,” said Georg Grodzki, head of credit research at London-based Legal & General Group Plc, the third- largest U.K. insurer. “Investors should have very guarded expectations for the first few months of 2008, volatility is likely to stay with us.”

Bank Risk

The 54 percent slump in European bond sales in the second- half was steeper than in the U.S., where new issues fell to $487 billion from $673 billion, or 28 percent, Bloomberg data show.

S&P expects to cut more credit ratings in Europe than it lifts next year for the first time since 2003 as slowing economic growth and higher borrowing costs crimp profits, the New York-based ratings company said last week. Moody’s predicts defaults by speculative-grade companies in Europe will rise to 3 percent within a year from 1.2 percent at the end of November.

European banks fared worse than companies, being charged more than the average for investment-grade debt for the first time in 10 years, Merrill Lynch data show. Yield spreads on European bank bonds doubled to 128 basis points more than similar-maturity government debt since July.

Zurich-based UBS AG, which wrote down $10 billion from U.S. mortgage investments earlier this month, paid 245 basis points more than the benchmark midswap rate to sell 600 million euros of 7.152 percent undated bonds on Dec. 12. That’s more than four times the spread of 58 basis points on 1 billion euros of 4.28 percent undated bonds sold by UBS in 2005.

Credit-default swaps, conceived to protect bondholders against default, pay the buyer face value in exchange for the underlying securities or the cash equivalent should a company fail to adhere to its debt agreements. A basis point on a contract protecting 10 million euros of debt from default for five years is equivalent to 1,000 euros a year.

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