Corporate bonds could pose a significant risk for investors right now, thanks to the rapid pace at which leveraged buyouts are occurring.
According to Bloomberg, the Bank of America Merrill Lynch US Corporate Index shows that there is about $1.6 trillion in securities, and approximately 58 percent of them in the BBB tier, which amounts to around $940 billion of them, don’t have the safeguards necessary for creditors to sell the debt back to the issuer at a premium if the issuer should merge. This indicates an extraordinary risk for investors who hold the lowest-rated U.S. investment-grade corporate bonds.
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Just last month, Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B)’s buyout of H.J. Heinz Company (NYSE:HNZ) and Liberty Global Inc. (NASDAQ:LBTYA) (NASDAQ:LBTYB)’s buyout of Virgin Media Inc. (NASDAQ:VMED) added up to around $51 billion, which JPMorgan Chase Co. (NYSE:JPM) said is the highest amount since April 2007.
Many investors, like Seth Klarman’s Baupost Group, LLC, saw some big gains after investing in the debt left behind by Lehman Brothers Holdings Inc. (PINK:LEHMQ). However, their claims could be weakened as the buyouts continue. Bloomberg interviewed an expert on investment-grade debt, who said that bonds are currently trading at such a high premium that investors could face price erosion as a result.
Prior to the 2007 financial crisis, many bonds came with provisions which required companies to pay back those securities, either at par or at a premium, if the companies were bought in a leveraged buyout deal. However, experts now say that the level of protection investors once enjoyed is just no longer there.