In Corporate Debt, Silence Isn't Golden

Amid all the noise of the markets, it is the relative silence of the corporate-bond market that may be most troubling.

Since August there have been just seven U.S. junk-bond deals, according to Dealogic, and 83 deals for all of 2008. Not only is that total a fraction of the number of deals done last year, it is just one-third the number done in 2002, the last time that market struggled.

Even the market for the most highly rated corporate bonds remains fickle. The pace of U.S. investment-grade deals has slumped by about 25% during 2008. The few issues that have squeaked through have carried some difficult terms: Pepsi Bottling Group, for instance, had to pay 7% to 8% to move $3.3 billion in long-dated bonds, a price some 60% greater than its existing paper.

Without the ability to sell debt, companies will be fighting for their lives. And even those that can borrow could be hurt by usurious interest rates.

Investors are in effect treating healthy companies as if they were teetering on the edge of bankruptcy. "We have never in history seen the margins of risk that companies have to pay," says Diane Vazza, who heads Standard & Poor's fixed-income research. For some borrowers, that means paying 15 percentage points above comparable Treasury notes.

So far, most companies have managed to stay afloat by tapping corporate bank lines or sharply paring costs. But that won't last. Nearly $800 billion of bonds comes due between now and the end of 2009, according to S&P. Unless a sudden turnaround develops, it will be either impossible -- or dearly expensive -- to replace that financing. "These companies are in urgent need of capital," Ms. Vazza says.

Most companies were in denial about this future for months, says Mark Fedorcik, Deutsche Bank's global head of leveraged finance. Now they are weighing whether to post new collateral -- MGM Mirage just pawned part of its New York, New York casino -- or entice debt investors to trade debt for equity.

Those are the choices before telecommunications company Level 3 Communications. It gorged on debt during the telecom bubble, using the cash to lay fiber-optic lines across the country. It has enough cash to meet its $300 million in debt payments during 2009. It has an additional $850 million in debt that comes due in 2010, a figure that it couldn't pay today.

How will the company adapt? Its chief financial officer gave a common refrain on a recent conference call, saying only that his company would "look at various mechanisms" for making good on its debts.

The problem faced by Level 3 and other companies is that lenders won't make a new deal at a 15% interest rate if they know a company can't handle those steep payments. And if a stock already is fetching a low price, there won't be enough room to trade large sums of debt into equity. Level 3 shares closed at 90 cents a share on Monday.

"Very good credits may be caught in a tough financial market, which will result in a higher cost of capital and postponed financings," Mr. Fedorcik says.

So how might confidence be restored to these vital marketplaces?

That will depend in part on the big commercial banks, which have slashed their lending in recent months. Without that lending, hedge funds can't borrow money used to buy the new corporate debt. But even if they could borrow, the funds are facing redemptions from investors, paralyzing their ability to make new purchases.

The same straits have hit insurers, a traditional purchaser of corporate bonds. Pension funds also are facing huge losses and large capital calls from private-equity firms, which is crimping their ability to buy.

"There are no cash buyers," says one trader.

Credit will eventually return, as it always does. Markets are acting like it is going to take a long time to get there. And there will be a lot of needless casualties along the way.

Write to Dennis K. Berman at dennis.berman@wsj.com