An increasing number of investors are betting that General Motors may be forced to seek bankruptcy protection within the next six to 12 months as it struggles to overcome slumping sales and the high cost of health care benefits for workers and retirees, The Associated Press (AP) reported.
AP said concerns about the world’s biggest car maker’s future are showing up in the credit default swaps market, where investors effectively buy insurance protection against defaults – holders of GM debt who want to arrange a hedge against the risk that they won’t be repaid are finding that the cost of buying the protection has risen dramatically in recent days.
“The markets are telling you that more traders are starting to see a greater risk that a default scenario could happen sooner in time than later,” John Tierney, a credit strategist at Deutsche Bank Securities in New York, told the news agency, adding: “You cannot deny there is a pattern here.”
GM spokesman Jerry Dubrowski responded by saying the automaker has “no plans to declare bankruptcy,” and he reportedly noted that GM has about $19 billion in cash on hand. Beyond that, he declined to discuss recent pricing trends for credit default swaps. “Typically we don’t comment on stock prices or bond prices,” he told AP. “We don’t think it is appropriate to do that.”
At issue, according to The Associated Press, is the nearly US$31 billion in debt related to GM vehicle making operations that ratings agencies already have downgraded to junk status, or below investment grade. Dubrowski reportedly said GM’s total debt, including debt sold by its General Motors Acceptance unit, now stands at $276 billion.
AP added that credit default swaps for GM are now trading at what is known as an “upfront” basis, meaning a bondholder seeking protection against a default has to pay more money up front because the Wall Street firms arranging the hedges have to pay more to protect themselves.
Michiko Whetten, a quantitative credit analyst at Nomura Securities International, told The Associated Press that GM debt had previously never traded on an upfront basis but, now that it is, it puts GM in an unenviable category with Delphi and Delta Air Lines – other companies whose debt traded on an upfront basis ahead of their petitioning for bankruptcy in October and September respectively.
AP said that Wall Street’s credit default swaps traders now view GM as a company so risky that a holder now must pay as much as $12 per year for every $100 of the automaker’s five-year corporate debt if they want to hedge against a default, up from $8 to $9 just several weeks ago. In addition, credit default swaps traders are now demanding more of that money up front from investors looking to protect their GM holdings.
These losses may not actually occur, but the pricing moves in the swaps market are a good indication of how Wall Street traders and investors are judging the risk of a GM default, the report said.
GM chairman and CEO Rick Wagoner said in an October interview with The Associated Press that unlike the airline industry, where some bankruptcy filings haven’t had a big effect on business, even speculating about bankruptcy hurts the auto business.
AP noted that, on Monday, GM, whose stock is trading at nearly half of its 52-week high, announced price cuts to shore up its sales.
The Associated Press added that GM’s outlook in the credit default swaps market took on a bleaker tone after last week’s disclosure by GM that it plans to restate its earnings for recent years.
That triggered what is known as an inversion in the credit swaps curve – a measure of risk between short- and long-term GM debt – meaning that Wall Street traders are betting the risk of GM declaring bankruptcy is greater in the next six months to a year than over a longer period of time like five years, AP said.
The news agency noted that, in a November 10 report, Banc of America analysts reiterated a ‘sell’ rating on the company’s stock, saying they believe the odds GM management could be held accountable for the accounting woes has risen and this could accelerate a bankruptcy protection decision they judged to be “inevitable.”
According to Deutsche Bank’s Tierney, the accounting problems caught investors by surprise and “contributed to a sense that GM problems are very deep”, The Associated Press added.