High-yield debt

Junk Bonds (English literally "junk bonds " ), high-yield bonds, also colloquially junk bonds or junk bonds are unsecured debt securities issued by issuers with a bad credit rating, which affects the probability of repayment of the bonds. The credit risk on these bonds is particularly high compared to well-rated bonds. Your high risk comes in a high coupon rate ("high yield" ) for expression.

General

The buyers and creditors of bonds (investors) have an interest at any time to assess their risk exposure. These investors may be rated yourself ( credit institutions, insurance companies, mutual funds ) or have to rely on the assessment of industrial rating agencies. Both ratings ultimately answer the question of whether the repayment risk on a particular bond is low or high. A high repayment risk is " speculative" with or " highly speculative " classified ( " sub-investment grade ," " non-investment -grade" ), colloquially referred to as "junk ". All agencies rate junk bonds with a rating of B or worse. There may be delays in payment or a payment default. Junk bonds are mezzanine financial instruments, as they are equipped as subordinated bonds ( subordinated bonds) and their cost of capital between Senior Debts ( senior loans ) and private equity ( equity) are.

Within the junk bond market, a distinction is made between Quality and Junk real junk. Bonds with Quality junk status have a rating of BB or B ( Standard & Poor's ), real junk bonds of CCC or worse. The higher default probabilities of junk bonds are confirmed by the empirical studies by Altman and Asquith / Mullins / Wolff. An empirical study of the U.S. capital market of flower / seed shows that in the period from January 1977 to June 1991 the long-term average return of junk bonds was 10.3 %. They thus in this period was on the average yields of bonds issued by companies with higher credit ratings ( 9.8%) and long-term government bonds ( 8.9%). Junk bonds have therefore compared to standard bonds two features, namely a higher return and - thus positively correlated - a higher failure probability.

While well- rated companies generally have immediate access to external liquidity for temporary bottlenecks, missing the issuers of junk bonds this flexibility because they are less options to provide liquidity for debt service.

History

Michael Milken is considered the " king of junk bonds " after he since January 1969 for the New York investment bank Drexel Harriman Ripley (later: Drexel Burnham Lambert ) worked. He examined the above-average interest income ( "high yield" ) the junk bonds that were issued by surprisingly got into a corporate crisis issuers ( "falling angels" ), in relation to the existing repayment risk. Originally once well rated corporate bonds to junk bonds can " migrate " when deteriorates the issuer risk of the company during the term of the bond. Texas International Incorporated (TEI ) - an oil and gas producers - considered to be the first company to junk bonds ( U.S. prime rate: 6.5%) in April 1977 to a nominal interest rate of 11.5 % emitted. The onset of liberalization in 1982 of the U.S. banking market enabled the purchase of bonds by banks and savings banks. They bought because of the attractive returns even junk papers, leaving the comparatively higher risks largely ignored. Milken made ​​sure that junk bonds the issuing entity brought in higher revenues than planned ( by placing a " best effort" ) and prompted these companies to acquire additional proceeds from the junk bonds of other companies. Drexel eventually dominated the junk bond market, in 1985 50 % of all buyouts were financed in the U.S. junk bonds. The market for junk bonds in the U.S. rose from $ 7 billion ( 1970), about $ 59 billion (1985 ) to 146 billion dollars (1988). 1987 broke the market for junk bonds together during the stock market crash of 19 October 1987, followed by a crisis in the U.S. savings banks that were acquired on a large scale junk bonds. These were rehabilitated under a law from 1989. Drexel announced in February 1990 bankruptcy.

As mid-1989 the department store empire of Robert Campeau his interest on junk bonds is unable to pay and shortly thereafter went bankrupt, these unsettled the market additionally. This was reinforced when in October 1989 the failed buyout of U.S. carrier United Airlines; the market for junk bonds collapsed. In 1991, fell from 10.6 % of all junk bonds and are no longer served by the debtors. In May 2001, WorldCom issued the largest bond issue in American corporate history, worth $ 11.9 billion with a return of 8.3% (Prime rate: 7.0%) and was forced to declare bankruptcy in July 2002. The largest junk bond of all time was no longer served.

Species

" Falling Angels " are junk bonds of formerly well-rated issuers whose credit quality has deteriorated during the term of the bond. This is reflected in falling bond prices, making the bond yield increases. " Born junk bonds ", however, are bonds that are issued by poorly -rated issuers. In "falling angels" the investor has initially invested in a good loan risk, but it deteriorated by further inventory holding. In " born junk bonds ", however, the creditor has decided from the outset aware of a higher investment risk. It assumes that the obligor is economically gesundet or redeveloped and may repay its bonds.

Purpose

Junk bonds played in financing the U.S. merger wave since 1980 a prominent role. Almost 20 % of corporate acquisitions that were financed with corporate bonds, junk bonds were in 1985. The company, which wanted to take over another company hostile, established a holding company, which had hardly own assets. Then, high-yield bonds issued to finance the equivalent of the emissions of junk bonds, the corporate takeover. Was the takeover is successful, the bonds were repaid out of the assets of the acquired company. Proposed the attempted takeover fails, the parent company went bankrupt and the speculators were only a part of your initial investment back.

Junk bonds were also used to finance management buyouts and leveraged buyouts. In both cases, the transferee company did not have the necessary capital funding for the purchase price and sometimes had to issue junk bonds to finance. The debt crisis in some countries has led to junk bonds with government bonds. Many holders of government bonds ( governments, banks, insurance companies, private individuals) had purchased these bonds at a time when the blame border states still had acceptable ratings. The investors had to watch how their risk worsened by intensification of the sovereign crises. So it is not true that these investors are aware of higher risks entered into. " Born junk bonds " are for companies or countries with economic difficulties usually the only form of fundraising, as banks the higher credit risk (no longer) want to take and do not allow more credit and equity issues might no longer be placed.

The investment in junk bonds is part of a speculative aligned depots. The purchase of such financial products can only be done as an addition to lower-risk investments. The intensive monitoring of performance is advisable for private investors due to high volatility. With the acquisition of shares in specialized investment funds that track the purchase of junk bonds as part of its investment strategy, you can spread the risk.

Trade Legal Aspects

Are held to junk status downgraded bonds of reporting entity in stock, so can not be assumed a 100% probability of repayment for accounting purposes. A distinction is made in Germany from non-banks and credit institutions.

Non-banks

The principle of careful assessment is standardized 4 HGB § 252 paragraph 1 no, especially after all foreseeable risks and losses that have occurred up to the balance sheet date to be considered. Specifically, Section 253 is required in § 4 HGB then that marketable securities are deemed to be the at the balance sheet date resulting lower quoted or market price ( strict lower ). Are the toxic assets in financial assets, they are in accordance with § 253 paragraph 3 HGB only expected permanent impairment for impairment losses to be corrected ( mild principle).

Requirements apply in accordance with IAS 39.58 as impaired when there is objective evidence that an impairment loss has been incurred. A receivable or group of receivables is impaired and impairment losses are incurred if:

• Objective evidence of impairment as a result of a loss event that occurred after the initial recognition of the asset and up to the balance sheet date ( loss event)
• The loss event had an impact on the estimated future cash flows of the financial asset or group of financial assets and
• A reliable estimate of the loss amount can be made.

IAS 39.59 gives some examples of loss events such as significant financial difficulties of the debtor, or breach of contract. If there is objective evidence of impairment, the investment is written off in the income statement (IAS 39.63 ).

Credit institutions

For banks to consider is whether the junk bonds in financial assets (Asset ) are entered in the accounts belong to the liquidity reserve or form part of the trading portfolio (trading book ). For securities that are enabled in the banking book, the moderate lower of cost § 253 paragraph 3 HGB applies while securities in the liquidity reserve and trading book pursuant to § 253 para 4 HGB should be assessed. For securities held in the trading book also § 340e paragraph 3 HGB (time value principle) applies. Reclassifications of securities from the trading portfolio to the investment portfolio are not permitted, unless extraordinary circumstances, especially seriously affect the negotiability of financial instruments that lead to a cessation of trading intent by the institution ( § 340e paragraph 3, sentence 3 HGB). After IAS is assumed for evaluation purposes assume that the junk bonds are traded on an inactive market, because buyers and / or sellers have withdrawn completely and longer term and a market liquidity is no longer detectable.

Others

In "Junk Convertibles " the creditworthiness of the issuer has deteriorated since issuance of the convertible bond such that in addition to the share price and the straight value (present value of the promised interest and principal payments) has fallen sharply due to widening credit spreads. Their value is based almost exclusively on the ( small ) probability of repayment of the bond component. The worse the credit rating of the issuer, the higher is the credit spread and the lower the value of the bond component and the straight value. To ensure that the creditors of convertible bonds subject to the risk of total loss, if the creditworthiness of the issuer falls and fall whose stock prices.

Table

For the classification into the different rating reviews of the most important agencies: