Chart of the Day - S&P500 - Leverage and performance

"When you combine ignorance and leverage, you get some pretty interesting results." - Warren Buffett

This Exane BNP Paribas chart displaying the S&P 500 with the performance relative to the leverage summarizes clearly the current "releveraging" trend in the United States we think:

- Source Exane BNP Paribas

Some thoughts around the latest jumbo M&A deal of the day, namely the $37 billion Avago/Broadcom deal. Like in many recent deals in the cable industry or pharmaceutical industry, we note that the buyers who are Investment Grade/Low Investment Grade rated use current low rates/spreads to realize acquisitions which are financed by most part through significant debt issuance.

We have therefore the following "spicy" buybacks/M&A cocktail at the high of the cycle financed by debt. This is reminiscent of the M&A Telecommunications wave of 1999/2000 where buyers who had realized their acquisitions by paying mainly in shares (Vodafone) fared much better than those who used debt and leverage (France Telecom/Orange, Vivendi, etc.).

Our thoughts:

1. If this trend continues, US Investment Grade credit will become less and less attractive from current levels of rates/spreads
2. This might be a statement of the obvious but, this "releveraging" to finance buybacks/acquisitions is a "bullish" development from a "volatility" perspective at medium/long term. The correlation between credit spreads/equities is more likely to rise and "self-power" financial stress in a case of a "Macro" risk reversal.

"Fair play doesn't pertain in bargaining. What matters there is leverage." - Alan Rosenberg, American actor

Stay tuned!