World Economy

Goldman Rallies Bears on Energy Junk Debt

Goldman Rallies Bears on Energy Junk DebtGoldman Rallies Bears on Energy Junk Debt

For years, bond traders have been hard-wired to “buy the dip”. This has often worked well in a world awash in central bank cash, when any sell-off has quickly been answered by a rally. But this time may be different when it comes to junk-rated debt of energy companies. These securities have been rebounding in force from a painful 2014 and 2015, even as the fundamental backdrop deteriorates.

Bullish investors seem to be betting that oil prices have stabilized, are heading higher and that the lower-rated companies that rely on these prices are in relatively healthy condition. But these buyers may very well be wrong, Bloomberg reported.

Energy companies still have too much debt and will struggle if oil prices fall. This adds up to a potentially toxic combination for some oil companies, especially those with excessive leverage.

Goldman Sachs Asset Management has been shedding oil and gas-related company bonds in the past few months and shorting oil in some portfolios, according to Mike Swell, the firm’s co-head of global fixed-income portfolio management.

The investment manager has moved from an overweight position in energy-related corporate bonds a few months ago to neutral today and toward an underweight stance, he said in an interview on Friday.

Some investors seem to agree with Goldman’s asset-management arm, at least enough to have a touch of skepticism about the prospect of these oil and gas explorers. Since the end of January, credit traders have demanded slightly more yield to own junk-rated bonds of oil and gas companies than other high-yield debt.

That said, it’s easy to see how these credit investors are still substantially under-pricing the risk. Oil prices, which tend to be fickle, are under increasing pressure as producers struggle to eat away a glut in crude stockpiles.

If oil prices were to stay below $47 a barrel, which seems possible, Bloomberg Intelligence expects that investors will demand a bigger cushion of extra yield to own junk-rated energy debt. Part of the reasoning is that these firms still require an excessive amount of leverage (and investor faith) to keep operating.

Junk-rated oil and natural gas producers have more than $25 billion of credit-line commitments expiring in 2019, Bloomberg Intelligence data show. If oil prices don’t rebound, banks have good reason to reduce those lines substantially, siphoning off a crucial funding source.

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