The Long and Short
Four non-bank hybrids price in primary
This material is a Marketing Communication and does not constitute Independent Investment Research.
The investment grade market continues to see heightened primary activity, including the non-bank hybrid segment. Four new hybrid securities came to market in the last week, the first launches since early October. The sector continues to trade at attractive spreads to 5- and 10-year senior bullet benchmarks.
The four new securities were issued by two utility companies that are familiar to the market, Entergy (ETR: Baa2/BBB) and NiSource (NI: Baa2/BBB+/BBB), and a third that currently had no hybrids outstanding, WEC Energy Group (WEC: Baa1/BBB+/BBB+). Volume this year for ‘BBB’ and ‘BB-‘ hybrid securities remains on pace to surpass last year’s record level adding another $2.9 billion to the year-to-date total.
ETR brought two separate tranches, a 30NC5 and a 30NC10, both rated at the Baa3/BBB- level. Somewhat surprisingly, neither of the tranches included a coupon floor for the back-end of the structure, which has become an increasingly popular feature to draw out more investors that are sensitive to extension risk. The NC5 structure priced at a yield of 5.875% versus initial price talk of 6.125%. At that level, the bonds came at a roughly 155 bp discount to comparable 5-year senior unsecured bullets issued by ETR, which is very closely in-line with average levels for the cohort. The NC10 structure priced at a yield of 6.1% versus IPT of 6.375%. The issuer has no senior 10-year bullets outstanding, but at a spread of roughly 200 bp, the bonds appear to offer a discount that is a little above the cohort average (currently about +85 bp) versus comparable bullet maturities in the segment.
WEC priced a 30NC5 structure with a coupon floor rated Baa2/BBB/BBB-. The bond priced at a yield of 5.625% versus the 6-6.125% IPT. The price level represents a roughly 120 bp discount to comparable senior 5-year bullets, which is about 30 bp less than the cohort average, demonstrating the value of the protective feature. NI also priced a 30NC5 structure with a coupon floor, although this security lands in the BB+ cohort. It priced at 5.75% versus IPT of 6.125-6.25%, which represented a roughly +132 bp discount to senior 5-yr bullets, which again is about 35-40 bp less than the BB+ cohort average for NC5s.
In the three exhibits below, the color scale in the middle indicates how the back-end floating rates compare to the other bonds in group, with the highest spread (ie most call protection) depicted in green and the lowest in red. Similarly, on the right side of the study, there are another two-color scales that depict the spread and yield-to-call picks available relative to senior bullet securities. The greater spread/yield picks are depicted in green with the lower in red. Not surprisingly, higher call protection generally translates to lower spread/yield picks relative to bullets. The most attractive relative value opportunities appear to be where moderate call protection (light green to yellow) coincides with the most attractive spread and yield compensation.
Exhibit 1 lists investment grade non-bank hybrids with roughly 5-year calls (2029-2031) relative to similar 5-year bullet senior securities. This represents the largest segment of the investment grade hybrid universe. Bonds with coupon floors are highlighted in blue. Some of the more attractive relative value opportunities within this cohort with the best spread/yield enhancement over versus seniors relative to call risk include:
- EVRG ‘55s (callable 2030) with +255.8 bp back-end
- SRE ‘54s (callable 2029) with +278.9 bp back-end
- SWK ‘60s (callable 2030) with +265.7 bp back-end
- TRPCN ‘65s (callable 2030) with +261.4 bp back-end
Exhibit 1. 5-year Call IG-Rated Non-Bank Hybrids vs Senior Bullets
Source: Santander US Capital Markets LLC, Bloomberg/TRACE YAS price indications only
The second investment grade segment in exhibit 2 lists securities with roughly 10-year calls (2034-2036) relative to similar 10-year bullet senior securities. Once again, the recent issues with coupon floors on the back-end are highlighted in blue. Among this group, bonds that appear to offer attractive valuation versus seniors relative to call risk include:
- D ‘55s (callable 2035) with +220.7 bp back-end
- ENBCN ‘54s (callable 2034) with +297 bp back-end
- PSX ‘56s (callable 2035) with +216.6 bp back-end
Exhibit 2. 10-year Call IG-Rated Non-Bank Hybrids vs Senior Bullets
Source: Santander US Capital Markets LLC, Bloomberg/TRACE YAS price indications only
Lastly, Exhibit 3 lists ‘BB’ hybrids with roughly 5-year calls (2029-2031) relative to similar 5-year bullet senior securities. This represents the largest cohort of the of the entire non-bank hybrid universe. More recent issues with coupon floors on the back-end are highlighted in blue, which includes the new NI issue. Among this group, bonds that appear to offer ideal valuation versus seniors relative to call risk include:
- Both AES ‘55s (callable 2029 and 2030) with back-ends of +320.1 and +383.5 bp
- EIX ‘54s (callable 2030) with +365.8 bp back-end
- ET Perps (callable 2029) with +530.6 bp back-end
- XRAY ‘55s (callable 2030) with +437.9 bp back-end
Exhibit 3. 5-year Call BB-Rated Non-Bank Hybrids vs Senior Bullets
Source: Santander US Capital Markets LLC, Bloomberg/TRACE YAS price indications only
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