Will Credit Markets Re-Freeze??

Treasurer Fear of Credit Freeze Seen in Cash Hoarding (Update2)
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By Bryan Keogh and John Detrixhe
Aug. 10 (Bloomberg) -- Two years after credit markets seized up and caused the worst financial crisis since the Great Depression, companies are hoarding the most cash in at least a decade.
“Every action we take or contemplate taking is measured by its impact on our balance sheet and liquidity,”
Mark Jacobs, the chief executive officer of Houston-based RRI Energy Inc., told analysts and investors on Aug. 3. The company sold its Texas retail electricity business and the Reliant brand name in May, helping triple cash and equivalents from a year earlier to 18 percent of assets, according to data compiled by Bloomberg.
Even as government reports show that the first global recession since World War II may be easing, corporate treasurers are raising cash as fast as they can, wary of losing access to capital. Corporate defaults reached 10.7 percent worldwide in July, the highest since 1991, according to Moody’s Investors Service. Credit markets that started to freeze in August 2007, have now triggered more than $1.5 trillion in writedowns and losses at the world’s biggest financial institutions.
Cash and short-term investments accounted for about $1.98 trillion, or 8.2 percent, of assets at the end of the second quarter for companies in the Standard & Poor’s 500 index, up from about $1.6 trillion, or 6.4 percent, a year earlier, Bloomberg data show. Cash reached a record $2 trillion in the first quarter, 8.3 percent of assets.
‘Cash is King’
“Cash is king,” said Paul Kasriel, the chief economist at Northern Trust Corp. in Chicago. “Businesses are in survival mode right now.”
While companies sold a record $837.9 billion of bonds this year and raised $109.8 billion in stock offerings, the increase in cash shows they are following the lead of consumers, who pushed the U.S. savings rate to a 14-year high of 6.2 percent in May.
“There’s going to be a generational psychology shift as to how you and I and the rest of the world think about finance,” said Jonathan Fine, a managing director on the investment-grade syndicate desk at Goldman Sachs Group Inc. in New York. “People will keep cash on hand so long as what happened in the last two years remains so visible in the rearview mirror.”
General Electric Co., the world’s biggest maker of power- plant turbines, increased cash and short-term investments at the fastest pace in 14 years in the second quarter, to $97.5 billion, or 12.5 percent of assets, from $64.9 billion, or 7.7 percent, a year earlier, Bloomberg data show.
Boosting Cash
The Fairfield, Connecticut-based company raised about $49 billion this year with unsecured and government-guaranteed debt through its GE Capital Corp. finance arm as CEO Jeffrey Immelt began boosting cash after the collapse of Lehman Brothers Holdings Inc. in September.
GE Capital sold $1.5 billion of three-year unsecured notes today that yield 1.8 percentage point more than similar-maturity Treasuries, Bloomberg data show.
“We’ve done a lot of stress testing in terms of making sure we’ve got sufficient liquidity, sufficient cash,” Kathryn Cassidy, GE’s treasurer, said in an interview.
That wasn’t the thinking until defaults on subprime mortgages made to consumers with poor credit began accelerating in 2007, causing losses on securities backed by the loans. Concern that the contagion would spread led investors to rein in credit.
BNP Paribas
The asset-backed commercial paper market contracted about 20 percent in five weeks from its peak in August 2007. Paris- based BNP Paribas SA said it halted withdrawals from three investment funds on Aug. 9 because France’s largest bank couldn’t “fairly” value their holdings. High-yield, high-risk companies such as Plainview, New York-based Aeroflex Inc., a maker of testing gear for the aerospace and defense industries, were forced to delay or cancel bond sales.
That month, the Federal Reserve, in a surprise move, cut the interest rate it charged banks. It would ultimately lower its target rate for overnight loans between banks to between zero and 0.25 percent from 5.25 percent.
As the financial crisis spread, New York-based Lehman Brothers, which was founded in 1850, filed for the biggest bankruptcy in U.S. history. The government bailed out American International Group Inc. and Citigroup Inc., while Bear Stearns Cos. and Merrill Lynch & Co. were acquired. The government assumed control of Fannie Mae and Freddie Mac, the nation’s two biggest mortgage-finance companies.
Credit Freeze
The collapse of so many financial giants worsened the credit freeze. Rates banks charged each other for three-month loans soared about fourfold to a record 4.63 percentage points more than Treasury bills of the same maturity on Oct. 10 from 1.17 percentage point a month earlier.
Speculative-grade companies, those with ratings below Baa3 by Moody’s and BBB- at S&P, got shut out of the bond market as the extra yield investors demanded to own their debt soared to more than 20 percentage points above Treasuries, according to Merrill indexes. Before the markets collapsed, the spread was less than 3 percentage points.
“It’s been a road to hell,” said Pat Freeman, treasurer of Calgary-based Agrium Inc., North America’s third-largest fertilizer producer. The company saw its shares tumble to as low as $23.31 from a high of $112.45 in June 2008. They closed at $49.12 last week. “You never know when the market might shut down on you.”
Government Steps
Unprecedented steps by the U.S. government and the Federal Reserve halted the slide as they spent, lent or committed $12.8 trillion to revive the economy, Bloomberg data show.
Access to credit still remains limited for companies that need it the most. Defaults may rise to 12.2 percent worldwide in the fourth quarter, according to Moody’s. Commercial and industrial loans fell to $1.48 trillion at the end of July, down 11 percent from a peak of $1.65 trillion in October, Fed data show.
Yield spreads on junk bonds ended last week at 8.57 percentage points on average, Merrill data show. For investment- grade companies, the difference is 2.54 percentage points. While down a record 6.56 percentage points in December, it’s above the average 1.42 points this decade before the credit seizure.
Even with the relatively high rates, U.S. corporate bond issuance in the first half rose 11 percent from the previous record pace in 2007, as businesses repaid short-term loans, Bloomberg data show. Stock sales were about double the same period of 2007.
‘Start Spending’
“The days of excessive leverage are over,” said Scott Minerd, who helps supervise more than $100 billion as chief investment officer of Guggenheim Partners LLC in Santa Monica, California. “Having term financing in place and not having yourself be vulnerable to a refinancing event is an important feature in every balance sheet.”
Signs the recession is easing may encourage companies to spend more cash, said Howard Silverblatt, a senior index analyst at S&P in New York.
“Once they believe the economy is getting better and not just less worse, they’ll start spending,” Silverblatt said.
The economy is showing signals of improving. Payrolls fell by 247,000 in July, after a 443,000 loss in June, the Labor Department said Aug. 7 in Washington. The jobless rate unexpectedly dropped to 9.4 percent from 9.5 percent.
Growth Resumes
The recession may have ended in July, said Jeffrey Frankel, a member of the committee at the National Bureau of Economic Research that dates business cycles. The median estimate of 60 economists surveyed by Bloomberg is for growth of 2.10 percent in 2010, after a contraction of 2.50 percent this year.
“Confidence is improving but there are still a lot of people who are nervous,” Ronald Millos, chief financial officer of Vancouver-based Teck Resources Ltd., Canada’s largest base- metals producer, said in an interview.
Teck eliminated its annual dividend last year, fired employees and reduced capital spending “to the bone” to bolster the confidence of lenders and investors, Millos said.
The company sold $4.23 billion of notes in U.S. dollars in May at interest rates as high as 10.75 percent to retire short- term borrowing that funded last year’s purchase of Fording Canadian Coal Trust. When Teck issued $700 million of debt in 2005, it paid a coupon of 6.125 percent.
Pitney Bowes
Pitney Bowes Inc., the world’s largest maker of postal meters, replaced commercial paper -- debt due in nine months or less -- with bonds after Lehman’s collapse reduced the availability of short-term financing. The company sold $300 million of 10-year, 6.25 percent bonds on March 2 at a spread of 3.38 percentage points. The average rate on 30-day commercial paper sold by non-financial companies ended last week at 0.15 percent, according to the Fed.
“Our approach in general changed in the sense of giving ourselves a lot more event-risk protection,” said Helen Shan, vice president and treasurer at Stamford, Connecticut-based Pitney Bowes.
RRI’s decision to sell its Texas energy provider freed up almost $3 billion of capital, Jacobs said. It also presented an opportunity for NRG Energy Inc., which snapped up the business for $288 million, said Robert Flexon, chief financial officer at the Princeton, New Jersey-based power producer. The purchase boosted NRG’s earnings by $233 million, according to a July 30 regulatory filing.
‘Opportunities for Investment’
“When you look back on the market over the last year, if you’re going to make a mistake, it’s to have too much liquidity,” Flexon said in an interview. “In an environment like this, where liquidity is tight, the opportunities for investment are probably at their peak.”
NRG had about 8.4 percent cash as a percentage of assets on its balance sheet in the second quarter, up from 4.9 percent the previous period and 4.7 percent a year earlier, Bloomberg data show. The company sold $700 million of 10-year, 8.5 percent notes on June 2 priced to yield 5.06 percentage points more than similar-maturity Treasuries.
The last two years “really showed the importance of maintaining adequate cash and liquid investments so you’re not relying solely on banks,” Flexon said. “We carry cash balances today of over $1 billion. We invest that primarily in U.S. government-backed overnight securities, so it’s an extremely liquid investment.”

These are very defensive moves for corporate treasurers.
Never in my finance career have I seen such concern over access to cash as opposed to short term credit. With banks in such poor financial health (more write offs coming onto the books in September), could a jolt to the financial system trigger another credit freeze?


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