Chris Lau and David Rowe, investment analysts in Jupiter AM’s Fixed Income team.
The US high yield bond market presents attractive opportunities. In a context where one of the main consequences of rising US interest rates has been the sharp increase in yields offered by dollar bonds, high yield bonds are no exception.
While such debt generally trades at historically tight spreads, the interesting exception to these spreads at three-year lows is the lower rated portion of the market. Some attractive opportunities can be found in some B and CCC rated bonds, particularly in the health care and telecommunications sectors. Companies that have experienced or are experiencing a turnaround in their operations and those with very valuable assets are particularly attractive.
Standardisation of the US healthcare sector after COVID
It is well known that COVID severely disrupted the healthcare sector. Two factors of particular relevance are the increased spending on outsourced staff and the changes in the profile of insurers, which led to a reduction in profits. These two factors are now normalising and state-supplemented health programmes have been strengthened, so a strong rebound in the sector is forecast.
Another important observation is that during the past months several hospitals have changed hands and many of them have reached considerable valuations, which is currently not reflected in the quoted asset price. Therefore, we believe that the market undervalues and underappreciates debt securities of operators that own a large number of very valuable hospital assets.
With these considerations in mind, Community Health Systems appears to us to be an attractive opportunity. Since the beginning of 2019, Community Health has reduced its portfolio of facilities. Despite this, net revenues per facility increased by 35% over the same period. The proceeds from these asset sales have mainly been used to reduce debt since the first quarter of 2019. Further asset sales are planned and will act as a catalyst for value recognition, making first lien bonds with longer maturities (yields above 10%) attractive.
Prime Healthcare is another example of a company that has shifted its priorities to regain ownership of its real estate. The company has acquired almost all of its lease obligations over the past few years. Most recently, it disposed of a hospital in California that was contributing negative EBITDA to the overall business. With the proceeds, the company repurchased an asset in 2023 that was generating significant EBITDA. We have held senior secured bonds for some time in various funds and see more upside potential as the company seeks to refinance and extend its maturity profile.
The US presidential election in November and early indications are that, unlike previous votes, healthcare reform is less important this time around. In addition, under the Biden administration, Federal Trade Commission chair Lina Khan has taken a slightly anti-corporate and venture capital investment stance. If Trump were elected, it is plausible that this approach would change. We are keeping a close eye on these considerations as election day approaches.
Telecoms: higher rates and fixed investment generate volatility
Telecommunications is another interesting area. Although it is generally a more defensive sector, it has a certain degree of cyclicality. As the sector evolves, there is a period (every 10 years or so) when investment in fixed assets increases exponentially. This is currently caused by the rapid transition to fibre from outdated cable and broadband infrastructures. This is a very costly process that companies must undertake to stay relevant. And, as with any change in market positioning, there is an opportunity to benefit from these mutations.
The fact that the rate hike cycle has coincided with the fixed asset investment cycle has put a lot of stress on the capital structures of US telecoms. However, we do not see the sector as permanently compromised. After the inflection of these cycles, we believe that these assets are highly valued. So, even though the market is giving these companies extremely low valuations, from a historical perspective we believe that this is an attractive opportunity.
Another relevant consideration in this sector is customer satisfaction scores, which play a key role in a company’s success. In distinguishing within the industry between “haves” and “have-nots”, we believe that NPS (Net Promoter Score) and increasing fibre penetration rates point to differentiated developments among operators.
In addition, a new source of liquidity has emerged: fibre providers can securitise their mature fibre networks at a relatively low cost of capital. This gives companies plenty of room to achieve deployment targets that would otherwise be unattainable.
We are closely monitoring several issuers in this area with a view to a possible addition to some of our portfolios.