RBS to UBS Boosting Junk-Debt Teams Once Gutted: Credit Markets

Jan 16, 2014 8:55 am ET

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Jan. 16 (Bloomberg) -- Dealers from Royal Bank of Scotland Group Plc to UBS AG that gutted their credit units after the 2008 financial crisis are now hiring to trade junk debt, seeking to tap into the biggest fixed-income gains during the past year.

RBS, owned by the British government after the biggest-ever bank bailout, is adding to its U.S. high-yield debt team by the most since 2006 with five senior hires since July to its trading and sales team in Stamford, Connecticut, said Dick Smith, the head of the group. Zurich-based UBS expanded a trading group created in August with three additions since November, said Tom Einhorn, the head of that team.

While new capital rules make it costlier for the biggest banks to hold speculative-grade assets, lenders are vying to profit from trading in the debt as the least creditworthy borrowers benefit from a strengthening U.S. economy. Bond buyers are finding a haven in junk after the Federal Reserve’s move to start tapering its unprecedented stimulus left the broader fixed-income market with its first annual loss in more than a decade.

“It’s typical of Wall Street, of over-cutting and then hiring people back,” said Michael Maloney, president of New York-based headhunter Maloney Inc. “There’s still money to be made in this market.”

Making Hires

Since July, RBS has hired credit salesman Michael Miller, strategist Vivek Khanna, and traders Kevin Dooley, Paul Stokes and Jack Oestreicher, said Smith, RBS’s head of loan and high- yield capital markets in the Americas. Stephen Chronert joined in March as head of U.S. high-yield bond and loan sales. Michael Sanzone moved to the Stamford office from London to run the firm’s sponsor coverage unit, which caters to financing needs of private-equity and hedge-fund firms in the U.S.

“From both a client and return-on-equity perspective, our high-yield business remains attractive for our global institution,” Smith said.

UBS, which has been selling assets accumulated before the crisis, formed a global team that focuses on debt ranging from the credit of Greece, Portugal and Cyprus to bonds of Caesars Entertainment Corp. and Eastman Kodak Co.

Investors are “going to look for the highest risk-adjusted returns,” Einhorn, who joined UBS after leaving Goldman Sachs Group Inc. in 2009, said in a telephone interview from New York.

Plunging Further

The team hired analysts Chris Ellis, formerly of Mizuho Securities USA Inc., and James Finneran of Developing World Markets this month. Tharsh Thavagnanam, a London-based corporate-bond trader, joined from RBS in November.

Investors are plunging further into riskier securities five years after the Fed embarked on an unprecedented program of keeping benchmark rates at about zero and buying bonds to suppress borrowing costs. While corporate and sovereign bonds lost 0.3 percent globally last year, junk-rated debt gained 7.1 percent, according to Bank of America Merrill Lynch index data.

Junk-debt offerings typically pay underwriters fees that are about three times those on investment-grade issuances, Bloomberg data show. The difference in what dealers charge to buy and sell the debt in the U.S. has averaged 55 basis points, or 0.55 percentage point, since the end of 2006, almost three times as much as the 19 basis-point spread for investment-grade securities, according to Barclays Plc data.

Junk Fees

Distressed-credit hedge funds delivered 16.8 percent returns in 2013, the most among all strategies, according to data-provider Eurekahedge. U.S. Treasuries lost 3.4 percent, Bank of America Merrill Lynch index data show.

Speculative-grade companies have raced to lock in yields that plunged to an all-time low last year, selling an unprecedented $379.77 billion of dollar-denominated high-yield debt in 2013, Bloomberg data show. Yields on the notes have risen 28 basis points from the low to 6.26 percent on Jan. 14.

Banks “need to support new issues,” Maloney said. “What they should do is hire one sales force to cater to firms globally.”

RBS shrank its investment bank after coming under pressure from lawmakers and regulators to bolster capital. The firm cut at least 20 jobs in corporate debt in November 2011. Oestreicher departed at that time, going to Cantor Fitzgerald & Co. before RBS hired him back in October, according to records maintained by the Financial Industry Regulatory Authority.

RBS’s Goal

After thousands of staff reductions in the Edinburgh-based firm’s investment bank, RBS began cutting 2,000 additional jobs as Chief Executive Officer Stephen Hester resigned in June. The firm fell to 12th on the list of most-active underwriters of dollar-denominated junk-debt sales last year from 10th place in 2011, according to data compiled by Bloomberg that excludes deals in which banks manage their own offerings.

“Our goal is to return to the top 10 in the league tables,” Smith said. “We’re looking to add, in a very strategic and select manner, senior people with strong relationships.”

Bond dealers jettisoned assets and shrank credit teams to comply with rules issued in 2010 by the Basel Committee on Banking Supervision and the Dodd-Frank Act passed by Congress the same year.

Capital Rules

Under the Basel standards, lenders need to reduce assets -- tallied according to the level of risk each carries -- by at least 25 percent, according to estimates by Sanford C. Bernstein & Co.

“The industry is trying to come up with the optimal mix of business in this changing world of regulation,” said Brad Hintz, a New York-based analyst at Sanford C. Bernstein & Co. “At some point, they’ll find that new optimality.”

UBS sold $500 million of distressed debt in November to Sound Point Capital Management LP and KKR & Co.’s Special Situations Fund, people familiar with the matter said at the time. Sound Point hired a UBS team managing the securities, led by Jeff Teach.

The bank, which is cutting 10,000 jobs and exiting most debt-trading businesses to concentrate on money management, is still committed to maintaining its investment bank, Chief Executive Officer Sergio Ermotti said in a Jan. 13 Bloomberg Television interview.

‘Defined Assets’

“We have very defined assets and capital that we want to put at work in the investment bank, and the business model works,” he said. “To imply necessarily that a higher leverage ratio means that the investment bank is the one most affected is too much of a simple conclusion.”

Elsewhere in credit markets, Bank of America Corp. sold $6.15 billion of debt in a four-part offering as the second- biggest U.S. lender posted quarterly profit that more than quadrupled. The cost to protect against losses on the bonds of the biggest U.S. banks fell to the lowest level since the start of 2008. Petroleos Mexicanos, the state-owned oil company, sold $4 billion of bonds in an offering that included the biggest 30- year bond issue ever by an emerging-market corporate borrower.

Bonds of Charlotte, North Carolina-based Bank of America were the most actively traded dollar-denominated corporate securities by dealers yesterday, accounting for 7 percent of the volume of dealer trades of $1 million or more, according to Trace, Finra’s bond-price reporting system.

BofA Offering

In the biggest portion of its offering yesterday, Bank of America sold $2.5 billion of 4.125 percent, 10-year notes to yield 125 basis points more than similar-maturity Treasuries, according to data compiled by Bloomberg.

The average price on credit-default swaps of the six largest banks fell 1.7 basis points to 71 basis points as the lenders clean up balance sheets and settle legal claims tied to the financial crisis, according to prices compiled by Bloomberg. The contracts typically fall as investor confidence improves and rise as it deteriorates.

The Markit CDX North American Investment Grade Index, a credit-swaps benchmark used to hedge against losses or to speculate on creditworthiness, declined 1.2 basis points to a mid-price of 63.7 basis points, falling for a second day. The index reached a six-year low of 62 on Dec. 26.

The Markit iTraxx Europe Index of 125 companies with investment-grade ratings was little changed at 69.75 basis points at 10:25 a.m. in London.

Credit swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

Rate Swaps

The U.S. two-year interest-rate swap spread, a measure of debt-market stress, increased 0.75 basis point to 12.75 basis points, the highest since Oct. 28. The gauge typically widens when investors seek the perceived safety of government securities and narrows when they favor assets such as corporate debt.

The Standard & Poor’s/LSTA U.S. Leveraged Loan 100 Index increased 0.02 cent to 98.84 cents on the dollar, holding at the highest since May 22. The measure, which tracks the 100 largest dollar-denominated first-lien leveraged loans, has returned 4.65 percent in the past 12 months.

Leveraged loans and high-yield, high-risk bonds are rated below Baa3 by Moody’s Investors Service and lower than BBB- at S&P.

In emerging markets, relative yields narrowed 6 basis points to 332 basis points, according to JPMorgan Chase & Co.’s EMBI Global index. The index has averaged 320.8 in the past 12 months.

Petroleos Mexicanos, known as Pemex, offered debt that included $3 billion of 30-year bonds yielding 260 basis points more than Treasuries, Bloomberg data show. Mexico enacted an energy law last month that ends the 75-year monopoly on oil production held by Pemex. The proposal championed by President Enrique Pena Nieto estimated Pemex’s annual output would jump as much as 60 percent by 2025.

--With assistance from Mary Childs, Sarika Gangar, Jessica Summers and Veronica Navarro Espinosa in New York. Editors: Shannon D. Harrington, Alan Goldstein