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Europe's junk market faces new crisis if UK votes for 'Brexit'

Tuesday, March 22, 2016 - 08:59

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When British voters decide the fate of the UK's role in Europe, they'll also potentially be casting the dice for the region's junk-bond market.

[LONDON] When British voters decide the fate of the UK's role in Europe, they'll also potentially be casting the dice for the region's junk-bond market.

A vote in favor of exiting the European Union in June will spawn the deepest market slump since the Greek debt crisis and the region's high-yield market will be among the biggest losers, according to analysts and investors due to speak at a conference on Europe's junk market in London on Tuesday.

A so-called "Brexit" would roil markets and even threaten to split the 28-nation union if other disgruntled member states seize the opportunity to leave. 

Already companies are listing the possibility of the UK's exit from the union as a potential risk factor to their bonds.  

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Market voices on:

"Everyone will lose out from Brexit," said Azhar Hussain, the London-based head of global high yield at Royal London Asset Management Ltd and one of the speakers at Euromoney's Sixth Annual European High Yield Bond Conference.

"The risks involving peripheral countries will arise again, and in risk-off mode, high-yield assets along with equities may be hurt the most."

RLAM oversees 86 billion pounds (S$168.4 billion).

The UK's future within the bloc will be decided in a June 23 referendum and a vote in favor of leaving will be the first time a nation has broken away from the union. The issue has split the UK government and uncertainty over the outcome sent the pound lower on Monday. 

Organizations from the Bank of England to the Confederation of British Industry have warned that a decision to leave may harm the UK economy and Moody's Investors Service said it will mean UK manufacturers, retailers and universities could all see their credit ratings slide.

A January poll of 500 small-business owners by YouGov Plc found that 42 per cent wanted the UK to leave.

Europe's junk bonds have been among the first assets to suffer during times of crisis in the union as investors lost their appetite for riskier debt.

The average yield on euro-denominated speculative-grade bonds surged to their highest in 20 months at the peak of the Greek debt crisis in July. Investors in high-yield bonds lost 1.97 per cent last year, the first annual loss since 2011.

"A Brexit will cause volatility and a flight to quality in the short term, with speculative-grade UK companies and euro debt to be hit the hardest," said Raphael Chemla, Paris-based deputy head of corporate debt responsible for high-yield and financial debt at Edmond de Rothschild Asset Management, which has 55 billion euros under management.

Polls signal the referendum will be tight. A March 14 survey for Telegraph Newspapers shows 49 per cent in favor of a Brexit and 47 per cent against.

Europe's high-yield securities are enjoying a lease of life following the European Central Bank's decision on March 10 to include corporate bonds on its quantitative easing shopping list.

That's given investors the confidence to buyer higher-risk assets, helping to push yields down to the lowest since December.

A go-it-alone UK, however, has the potential to derail recent gains as the ripple effects of a "Brexit" are felt across the continent.

"UK companies, especially those with significant European trade will suffer but questions over the periphery will reemerge too," said David Newman, head of high yield at Rogge Global Partners in London, which manages more than US$30 billion.

Brexit "challenges the concept of unity and the periphery needs European support the most, hence there could be a wobble."

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