Junk bond market sell off = Bad news for the Big 3

The collapse of the subprime mortgage market has spooked the so-called "junk" bond or "high yield" bond market.

10 days ago:

"US HIGH YIELD-US junk bonds sell off, threatening LBO financing. The U.S. junk bond market is being shaken by the subprime market, raising concerns about the viability of a number of proposed high-yield debt sales which are tied to company buyouts."

Yesterday:

"Spreads, which are the extra yield investors get for sinking cash into riskier securities, have widened by their biggest margin since December 2006. On Thursday, the risk premium for junk bonds hovered at about 300 basis points, or 3 percent, over Treasury bonds - up sharply from the 246 basis points, or 2.46 percent, at the end of May. That's because prices move in the opposite direction from yields, and prices have been falling."

Today:

GMAC's bonds fall 3 points amid junk bond selloff

NEW YORK, July 20 (Reuters) - GMAC's long bonds fell three points on Friday as the U.S. junk bond market suffered a broad selloff, according to MarketAxess.

GMAC's 8 percent bonds due in 2031 fell to 93.56 cents on the dollar on Friday, down from 96.56 cents on Thursday, MarketAxess reported. GMAC, the former finance unit of General Motors Corp. (GM.N: Quote, Profile, Research), is now majority-owned by Cerberus Capital Management."


Speaking of Cerberus, a few days ago, I made a post titled "Has Cerberus bit off more than they can chew in the Auto Industry?" in which I talked about the difficulties Cerberus is having raising the required capital to complete the Chrysler deal. In today's Wall Street Journal, there was an article titled "Red-Flag Sale: LBO Debt Deals Face New Snags"

Banks raising nearly $40 billion in buyout-related debt for Chrysler Group and the United Kingdom's Alliance Boots PLC are being forced to sweeten terms for investors and face delays in their sales, in another sign of turbulence in global debt markets.

Chrysler just started contract negotiations with the UAW, and already started by blaming the unions for it's woes.

Also in today's news: 2,000 of 17,000 Delphi Workers are ready to strike.

So to summarize, capital is drying up in the junk bond market. Cerberus is already having a tricky time getting the money they need to buy out Chrysler. The Big 3 have started the negotiations process for a new contract with the UAW, and Chrysler came out swinging. And some of the unions are still prepared to strike, causing a crippling shutdown.

The Big 3 are going to need more capital to fund a potential VEBA plan where they pass the pension and benefit plans over to the Unions. And more importantly, they are going to need the cooperation of the Unions if they hope to survive.

It seems like the winds of change are blowing in the wrong direction for the Big 3 automakers. The Unions aren't in a cooperative mood. The flush capital markets are drying up. By the time negotiations are complete, the VEBA plan could be impossible. And they are running out of cash. I would be particularly nervous if I were a shareholder in Ford, which seems to be the weakest of the three.

*UPDATE*

Two more related stories in the Wall Street Journal.

The Junk Bond Market Hangs the Gone Fishin’ Sign

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