Market Sentiment & Lateral Thoughts

from Neil Behrmann and other authors

S&P downgrades debt of energy companies

Brokers Sanford Bernstein also warn that UK and other European banks have sizeable exposure to Glencore and other commodity traders

STANDARD & Poor’s has downgraded the debt of numerous US, European and emerging market energy companies while brokers Sanford Bernstein has warned that banks are exposed to debt of commodity traders.

S&P has revised downwards its oil price projections and is concerned that “many companies’ current and prospective core debt coverage metrics are currently below our rating guidelines”.

S&P forecasts of a recovering oil price in 2016 and 2017 “have prevented more downgrades at this stage”.

For the integrated majors such as Royal Dutch Shell, BP, Statoil, Total, Exxon and Chevron, S&P anticipates “material negative cash flows, only partly offset by disposals”. The debt ratings of these companies, however, were lowered only slightly and are still investment grade because the companies have disposed assets and refining profitability remains “strong”.
S&P downgraded the debt of 25 US oil and gas exploration companies and 14 European, Middle Eastern and African (EMEA) energy firms.

“Although many of these (US) issuers lowered capital spending and have been focused on drilling their core assets, credit measures remain weak for the ratings,” S&P said.”Most rating actions reflect lower credit-protection measures, negative cash flow and uncertainty about liquidity over the next 12 months.”

EMEA ratings “reflect weak debt coverage measures in 2015 and 2016 and sometimes material negative discretionary cash flow after capital expenditures (capex) and dividends”.

US firms whose debts saw negative downgrades included Chesapeake, Ultra Petroleum, Templar Energy, Clayton Williams, American Energy-Permian Basin and Northern Oil & Gas. EMEA exploration companies with a negative debt rating include Tullow Oil, Eni, Repsol, Ithaca and Nostrum Oil & Gas.
S&P noted that because of lower oil prices in an oversupplied market, energy companies’ actual and forecast financial results in 2015 “are typically weak or very weak”. The firm foresees “very substantial negative discounted cash flows for European oil and gas majors in particular”.

“The magnitude of the oil price drop – down 45 per cent on average in 2015 against 2014 levels, under our assumptions – will not be matched by oil producers’ cost and capex adjustments in 2015 or 2016,” said S&P.
S&P is critical of energy companies such as Shell, which are still paying out large dividends. “We see the decision to cut investment to facilitate generous shareholder distributions as a negative from a credit perspective, because the reduction in investment will affect future cash-generating assets.”

S&P oil price forecasts

S&P’s assumptions are based on a forecast Brent oil price of US$50 a barrel for the remainder of 2015, US$55 a barrel in 2016, US$65 a barrel in 2017, and US$70 a barrel thereafter.

It expects a drop in operating margins as sharp price declines are only partly offset by cost-cutting measures in 2015, and assumes that in general refining margins could be one-third lower in 2016 compared to 2015.

Sanford Bernstein’s warnings

Meanwhile, an analysis of Sanford C Bernstein, the investment group, estimates that UK and other European banks have sizeable exposure to Glencore and other commodity traders. The firm estimates that banks – notably Standard Chartered, HSBC, Lloyds Banking Group, Barclays and RBS – have lent more than US$5 billion to the world’s most active commodity traders. The fear is that loan loss provisions will be high as traders have been hit by the commodities price slump.More than half of the leading banks’ exposure to commodities is through loans to Glencore, which is under acute pressure because of its high levels of debt.

According to Bernstein analysts, Glencore accounts for about £2.6 billion (S$5.6 billion) of commodities loans from UK banks. Analysts caution that exposure could be higher because of derivatives trading. Other traders include Trafigura, Noble and Olam. The world’s top seven commodity traders have outstanding borrowings of about US$125 billion, estimates Bernstein. Over and above this figure, banks have financed these companies through letters of credit that could add multi-billion dollars of exposure, although firms would have also hedged risks.

copyright Neil Behrmann

Comments are closed.