The Bond Disaster Loometh

From Bloomberg, we have Junk Bonds May Repeat Crash of 2002 on LBO Credits.

More than half of the junk bonds sold this year were used to pay for leveraged buyouts and mergers and acquisitions, according to Barclays Capital. Money is so easy to come by that for the first time some investors agreed to let borrowers choose to make interest payments in cash or in additional bonds.

Univision Communications Inc., the Los Angeles-based Spanish-language broadcaster, and real estate broker Realogy Corp. of Parsippany, New Jersey, financed their takeovers in part with so-called toggle bonds that give the issuer the option to pay interest with more bonds.

Univision sold $1.5 billion of toggle notes on March 1 that are rated B3 by Moody's and CCC+ by S&P. The notes pay cash interest of 9.75 percent and a pay-in-kind coupon rate of 10.5 percent.

Realogy sold $550 million of the securities on April 5 with an 11 percent cash coupon and an 11.75 percent rate if paid in extra notes. They are rated Caa1 by Moody's and B- by S&P.

There have been 10 sales of toggle bonds this year, amounting to $5.14 billion, the most ever, according to S&P's Leveraged Commentary and Data unit. There were five sales totaling $4.05 billion completed in November and December of last year. Before that, only luxury retailer Neiman Marcus Group had issued the securities, in September 2005.

I hope readers can understand the lunacy of this correctly.

If these companies can't make the payment, they'll issue more bonds, and that will be the payment. And if they can't service that, they'll issue even more bonds, and those bonds will be the payment.

And what happens when (and it's always when) the market chokes, and won't accept any more bonds?

The answer is obvious.

You'd have to be an absolute moron to fund these bonds, and yet investors have funded them. There's going to be a lot of bloodletting in the next 5-10 years.