Bank-Bond Weakness Rattles Investors
After a stellar five-and-a-half-month run, bank bonds dropped sharply during the last week of June, leaving investors decidedly more nervous about what lies ahead.
"The market is looking for certainty again," said William Downes, a vice president of Keefe, Bruyette & Woods Inc. "You probably won't see any [bank] issuance until second-quarter earnings are out."
Returns for most bank issues tumbled 0.56% for the month, according to the Merrill Lynch Bond Index.
The drop in returns is an indication that the bank debt market, while very much improved since late last year, remains volatile. As a result, experts predict that many banks will find fresh capital less accessible during the third quarter.
Higher Highs, Lower Lows
Just as bank bonds outpaced the overall market improvement for the first five months, they dropped further than the overall market in June, according to the Bond Index. The Merrill Lynch benchmark was off 0.068%.
Word of an unexpectedly large second-quarter loan-loss provision at Wells Fargo & Co. sparked the decline in bank bonds, Mr. Downes and others observed.
They said that bond investors dumped issues of other large regional and money-center banks known to have large portfolios of syndicated loans to highly leveraged companies, which caused the bulk of problems for Wells Fargo.
"Until the Wells Fargo announcement, most issues had been trending up in price ...," said S. Waite Rawls 3d, vice chairman for global trading at Continental Bank.
Adding to investor nervousness, although not to June's bond returns, were projections of losses at First Interstate Bancorp and Security Pacific Corp. on July 1 and July 3.
While spreads between toprated issues and medium-quality issues shrank during the second quarter, Mr. Downes said they are likely to widen during the third quarter. "People will be more selective," he said.
As prices declined, yields on bank debt have risen sharply.
Citicorp's 10-year issue is now yielding 10.85%, compared with 10.40% in mid-June; Chemical Banking Corp.'s 10-year debt has moved to 11% from 10.40%; and Chase Manhattan Corp.'s one-year debt has moved to 11.25% from 10.65%.
"With spreads so tight, the industry was vulnerable to any bad news," Mr. Downes said, pointing out that before spreads widened at the end of June, they were as tight as they had been in mid-1989, prior to concerns about the banking system.
Even good-quality banks have been hit. Yields on Bank-America Corp.'s 10-year debt, for example, have increased 15 basis points to 9.75%.
Banks issued nearly $2.5 billion in subordinated debt during the first six months of 1991, nearly three times the amount issued during the first six months of 1990.
Longer-Term Problems, Too
Before June's decline, most bank bonds - that is, those with maturities of five to 10 years and of medium quality - had generated returns of 10.67%, in line with junk-bond performance for the year and far ahead of the overall bond market's 4.26% return.
The bank bond declines for June were similar for longer-term debt, from 10 to 15 years, and of medium quality. Returns in that category declined 0.48%.
High-quality bank debt with maturities of 10 to 15 years fell the most of all bank-bond categories, declining 0.966% in June.
High-quality bank debt with maturities of five to 10 years fell the least, declining 0.045%.