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Covenant clause removal fires up US bond investors

Investors drew a line in the sand on Wednesday, forcing companies to rewrite bond documents in a stinging rejection of covenant packages that were seen as hostile to bondholders.

Marketing material for bond offers by General Motors’ financial subsidiary, chipmaker Broadcom and the Brazilian pulp manufacturer Fibria Celulose dropped language that deprived investors of certain premiums should the companies breach their covenants and default, according to three people with knowledge of the sales.

The investor opposition, which one money manager characterised as a “groundswell”, also prompted Novolex — a maker of packaging products that private equity firm Carlyle is buying — to agree to remove the language from its bond prospectus a day earlier.

“There is still power for the [bond] buyers,” said Matthew Brill, a portfolio manager with Invesco. This was “the start of a slippery slope. We said we had to hold the line.”

There was concern among investors that they would simply miss out on deals if they sought to negotiate with underwriters on the language, which often reads: “No premium in respect of the notes shall be payable as a result of any default”.

Gautam Khanna, a portfolio manager with Insight Investment, noted that sharp inflows into US corporate credit had weakened investors’ hands.

“Often a deal is announced, particularly in the investment-grade space, and it is five-times oversubscribed in the first few hours and it gets done,” he said. “There’s not much of an opportunity to push back on the covenant package.”

The so-called no-premium language first popped up in a corporate bond sale last October and has since featured in about a dozen deals.

It limited make-whole redemption premiums should a company trigger a technical default and eroded investor recourse should a covenant be breached, fund managers said.

Insurance broker Marsh & McLennan, which successfully sold $1bn worth of debt earlier this week with the clause, amended its bond documents with US securities regulators on Wednesday to remove the language. 

After Broadcom removed the clause, underwriters counted orders in excess of $25bn for the $13.55bn offering — the year’s largest corporate issue so far and one of a handful of $10bn-plus acquisition-related bond sales expected in 2017. 

The deal, spread across three-, five-, seven- and 10-year maturities, will be used to pay off some of the company’s existing borrowings. The 10-year notes priced with a yield 155 basis points above the benchmark Treasury, for a yield of about 3.9 per cent. It was roughly in line with similarly rated debt, according to Bloomberg Barclays Indices.

The sale, which was completed shortly after GM Financial’s $2.5bn debt was issued, came amid a wave of bond offerings that started the year on a record pace. Some $52bn of investment-grade corporate debt was sold in the US in the first week of the year, according to Bank of America Merrill Lynch strategists. 

“So far issuance has been extremely robust this month and we haven’t even gotten to earnings season, when most of the US banks will come,” said Andrew Forsyth, a portfolio manager with BNP Paribas Investment Partners who purchased some of the new seven-year Broadcom notes.

“There is a little bit of fatigue in the investment-grade market.”

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