Leverage in PE Deals Soars Despite Fed Warnings; Amidst Insatiable Demand for Risky Fannie Mae Debt

Barely a day goes by anymore when I’m not confronted with a slew of articles flashing warning signs about the latest Federal Reserve fueled credit bubble. Just yesterday, I highlighted the investor feeding frenzy happening in junk bonds, driving yield spreads to the lowest levels since the prior peak year of credit exuberance in 2007 in my post: Credit Mania Update – The Chase for CCC-Rated Bonds.

Today, I am going to highlight two articles on very different aspects of the credit market, but both are illustrative of the investor buying panic happening in debt markets. All of this is terrifying, and it appears to represent the final stages of another crackup boom. One that is likely to implode sometime in 2015.

Let’s first take a look at this article from the Wall Street Journal that highlights the fact that the Federal Reserve is becoming increasingly concerned by leverage ratios financing the latest round of private equity deals. Apparently, the Fed is “warning” banks about this, which is complete disingenuous bullshit considering it is their low interest rate policy that is leading to all of this nonsense. Of course, they could always raise rates and put and end to this, but they know this will collapse the gigantic house of cards they have created. This is a total mess and one gigantic joke.

The WSJ reports that:

Wall Street banks are financing more private-equity takeovers with high levels of debt, despite warnings by regulators to reduce the amount of risky loans they make.

The Federal Reserve and the Office of the Comptroller of the Currency last year issued guidance urging banks to avoid financing leveraged buyouts in most industries that would put debt on a company of more than six times its earnings before interest, taxes, depreciation and amortization, or Ebitda. The Fed and the OCC also told banks to limit borrowing agreements that stretch out payment timelines or don’t contain lender protections known as covenants.

Still, 40% of U.S. private-equity deals this year have used leverage above that six-times ratio deemed the upper acceptable limit by regulators, according to data compiled by S&P Capital IQ LCD. That is the highest percentage since the prefinancial-crisis peak of 52% of buyout loans in 2007. Such lending all but disappeared during the crisis but has risen each year since 2009.

More references to 2007…

Leveraged-finance bankers have complained that the guidance isn’t clear, and adherence to the guidelines hasn’t been uniform, which some in the industry attribute to the Fed and OCC applying them inconsistently and to confusion around what exactly is allowed under the new policy.

Yeah right, bankers are complaining all the way to the bank and don’t give two shits as all this garbage will be safely stuffed in muppet pensions by the time it blows up.

The best “guidance” the Fed can give is to raise rates, but like I said, they won’t do that since the ponzi scheme will collapse into dust.

The OCC has articulated a “no exceptions” policy, while the Fed has told the banks it oversees on this issue that they may participate in a small number of the leveraged-buyout deals that stray from the guidance, according to a person familiar with the matter.

The banks are also interpreting the guidance differently, bankers, lawyers and private-equity executives said. One issue is how Ebidta should be calculated, bankers said. Another is what happens if a deal meets some criteria in the guidelines but not all.

It will be calculated in the way that allows the deal to get done and fees to be earned. Give me a break.

One senior leveraged-finance banker said some banks are making a bet that “we can do whatever we want” until the Fed and the OCC align their approaches and repercussions become clear.

So far, plenty of deals are getting done above the ratio set out in the guidance, as low interest rates fuel a rush by investors toward higher-yielding debt such as leveraged loans.

Moving along to mortgage related debt. In case you haven’t been paying attention, the Obama Administration’s latest response to homes becoming unaffordable due to private equity funds and foreign oligarchs buying up homes for all cash amidst a sluggish economy with zero real income growth, is to once again encourage loans with no money down.

The man leading this latest effort in financial insanity is none other than the new director of the Federal Housing Finance Agency (FHFA), Mel Watt. In case you aren’t familiar with Mr. Watt, he is one of the most well renowned banker whores in the USA. He was the main Rep. in Congress who fought to kill Ron Paul’s Audit the Fed bill. Wikipedia notes:

In 2009, fellow congressman Ron Paul reported to Bloomberg that while Paul’s bill HR 1207, which mandates an audit of the Federal Reserve, was in subcommittee, Watt had substantially altered the substance of the bill, a move which had “gutted” the bill’s protections.[22] According to Bloomberg News, on October 20, 2009, “The bill, with 308 co-sponsors, has been stripped of provisions that would remove Fed exemptions from audits of transactions with foreign central banks, monetary policy deliberations, transactions made under the direction of the Federal Open Market Committee (FOMC) and communications between the Board, the reserve banks and staff, Paul said today.”Paul said there is “nothing left” in the bill after Watt’s actions.[22]

So what is Mel Watt and the central planners in the Obama Administration up to? Nothing good.

The Wall Street Journal reports that:

The latest place where investors are taking on more risk in exchange for apparently meager returns: the U.S. housing market.

Bond buyers on Tuesday jockeyed to get a piece of $1.6 billion of riskier Fannie Mae securities, enabling the government-backed mortgage company to twice cut the yields it offered on the debt.

The offering is Fannie’s third sale of so-called risk-sharing certificates that enlist investors to pay for potential defaults on the home loans Fannie guarantees. The riskiest of the securities, linked to loans to home purchasers who paid as little as 3% cash upfront, drew 19 times the bids necessary to complete the sale before yields were cut, said people familiar with the offering.

Total insanity. You can bet this crap will be all over your pensions.

Robust investor demand for the deal is the latest sign of investors’ willingness to take on more risk in return for higher income amid soft economic growth and low interest rates on safe investments.

Some slices of the debt on offer this week, which are rated below investment grade by one credit rating firm and just above junk by another, are expected to price at yields nearing those of securities fully backed by Fannie Mae and carrying an implied government guarantee.

Here we go again…

James Grady, head of the structured-finance team at Deutsche Asset & Wealth Management, said the sale underscores the success of the Federal Reserve’s low-interest-rate policies in prompting purchases of riskier debt. But he warned that purchases at low yields eventually “will be overdone” and leave some investors with poor returns.

Fannie Mae doesn’t make mortgage loans. Typically, it buys loans and packages them into securities that it issues to investors. It then guarantees investors will be paid even if the underlying loans default. The securities sold this week don’t offer investors the benefit of a full government guarantee.

This week’s sale is in line with efforts of the new FHFA director, Mel Watt, to “expand access to credit in the mortgage market,” said Clifford Rossi, a former head of credit policy at Freddie Mac and now a professor at the University of Maryland business school.

The deal comes a week after Mr. Watt instructed Fannie Mae and Freddie Mac to boost the amount of risk they share with private investors.

Mel Watt is a weapon of mass destruction.

Fannie Mae is expected to sell the riskiest slices of the deal at 2.6 percentage points over the one-month London interbank offered rate, or about 2.75%. Those yields are down from premiums of more than three percentage points discussed earlier in the week, investors said.

“The more time that goes by where there’s no reform, these risk-sharing deals are going to be a key component” of the mortgage bond market, said Michael Canter, head of securitized assets at AllianceBernstein.

Reform? What’s that.

In Liberty,
Michael Krieger

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7 thoughts on “Leverage in PE Deals Soars Despite Fed Warnings; Amidst Insatiable Demand for Risky Fannie Mae Debt”

  1. Whores. All of them. They’ll have their cushy pensions properly indexed, while their slaves, the taxpayers are starving. They keep changing our laws, our Constitution to keep us at bay with a DoJ that totally kowtows to their desires. This violence against our people deserves retribution.

    Reply
  2. If we had a functioning press, meaning if the mainstream media did its job at all, they could deter some of this merde. They could bring the news of this to millions of people and put some real heat on Mel Watt and the Obama crime family. But they have no courage whatsoever.

    I sometimes wonder, when the SHTF, what will things be like for someone who tells people that they were a banker from, say, 1995 to the time when the SHTF, or a mainstream tv or newspaper “journalist”. Where once, they might have expected fawning deference, I wonder if they’ll have to worry about angry mobs. How f***ing easy is it to work this story? But none of them will.

    Thanks, Mike for telling those of us paying attention at this point.

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