Into the unknown

Takeaways: With an unexpectedly strong victory for the ‘No’ campaign in the Greek referendum we are sailing ever deeper into uncharted waters – and that brings a level of uncertainty that could rein-in the confidence shown by companies and investors alike in the first half of the year.

The certainty of uncertainty

With over US$2t of deals announced in the first half of 2015 it seems the second half has started in the same vein. Over US$130b of proposed deals were laid out in the first 3 days of July, with deals being considered across a wide range of sectors and geographies. However, geopolitical tensions and concerns over the increasing likelihood of interventions by regulatory and antitrust bodies highlight the difficulties of dealmaking in the current climate.

Where these concerns are most apparent is in debt funding for M&A. We mentioned about a month ago that some companies were raising funds well before deals complete in a move that’s now looking rather prescient.  Companies need to raise around $50b of funding to finance M&A transactions in the coming months, according to Reuters, and their options were narrowing even before a cocktail of Greek, Chinese & Puerto Rican uncertainties unsteadied markets. In the past four weeks just €10.96b worth of euro-denominated corporate bonds has been issued, compared with €30.4b issued in the previous four weeks. The Danaher bond deal last week did break the near silence in European bond markets. It’s exactly the kind of action that might have got the pipeline moving again – if uncertainties hadn’t been renewed this weekend.  Although, it’s hard to think what outcome would have seriously unmuddied the waters. And, if deals were being held until after the vote, there is little being offered today to get them moving.

Indeed, nothing about the Greek crisis says quick resolution. At best it’s a drag on confidence whilst another deal is hashed out.  At worst…well we don’t know. But in the event of Greece not paying its other creditors, Eurozone sovereigns would need to make good €335m in loan guarantees, with a dramatic impact on prices, yields and investor appetites – not to mention the recovery hopes that have driven investors back into the region.

According to BofAML, global investment grade bonds yielded negative returns of 2.58% in the second quarter – the second lowest on record. The third quarter will be less kind. Investors will want a greater cushion against these uncertainties and in response to some disappointing recent issues.  Some borrowers could turn back toward the US, if Europe’s price attractions wane or markets remain stalled by uncertainty. However, European issuers will need to weigh-up the risks of a strengthening dollar and escalating crisis that could weaken the Euro – and their investment case.

It is widely accepted that the prime driver behind the stellar performance of the dealmaking markets through 2014 and 2015 has been the return of confidence to the boardroom. That was the final ingredient needed to turn record cash, benign credit markets and a need to find growth to accelerate value creation into positive action. In an environment where organic growth measures had been exhausted, sub-par economic performance was prevalent, and disruption and divergence were coming to the fore, all signs were pointing to M&A as the way forward. Companies finally took the hint and we have seen the resulting upturn in deal activity.

The uncertainty caused by the events surrounding Greece could kill this confidence. While Greece is but a tiny cog in the overall global economy, the impact on investor sentiment towards Europe, especially stability in the core Eurozone, is a troubling concern for all corporates –  regardless of their direct exposure.

Hopefully we will see a quick resolution one way or the other.  Last week the IMF injected some Realpolitik into the debate, with a report that said public finances will not be sustainable without substantial debt relief –  which may include the write-down of debt effectively guaranteed by taxpayers. It’s not a popular view across a good deal of the Eurozone, but whatever happens now European institutions are likely to be supporting Greece for some time – either in the Eurozone or in the EU – and there may not be a better window to bite the bullet and restructure.