January 20, 2010, 11:23 PM EST
By Bryan Keogh and John Detrixhe
Jan. 21 (Bloomberg) -- Kraft Foods Inc. bonds are rallying as debt investors reject Warren Buffett’s assertion that the company’s 11.9 billion-pound ($19.4 billion) takeover of Cadbury Plc is a mistake.
Kraft’s 6.875 percent notes due in 2039 climbed to a three- month high of 108.7 cents on the dollar yesterday, according to Trace data. The Northfield, Illinois-based food and beverage company’s bonds have returned 2.02 percent including reinvested interest this month, compared with 1.72 percent for an index of similar debt and 1.71 percent for the global corporate bond market, according to Bank of America Merrill Lynch index data.
While Buffett said Kraft is overpaying for Cadbury by using undervalued stock to fund part of the deal, bond investors are betting the acquisition won’t jeopardize its investment-grade credit rating. Shares of Kraft have risen 2 percent since early September, just before the offer was announced.
“It’s not as bad on the bondholders as it is on the equity guys,” said Mirko Mikelic, a money manager at Fifth Third Asset Management in Grand Rapids, Michigan, where he helps oversee $14 billion of fixed-income assets. “People in the bond market don’t think they’re going to want to jeopardize their BBB rating.”
Elsewhere in credit markets, the extra yield investors demand to own corporate bonds globally instead of Treasuries is holding at about the lowest since December 2007 at 1.61 percentage points. Yields fell to 4.09 percent on average yesterday from 4.12 percent on Jan. 19. Credit-default swaps show investors are growing more concerned about the risk of companies failing to pay their debt.
Kraft Bonds Rise
Some Kraft bonds rose yesterday even after Fitch Ratings cut its default ranking to BBB- from BBB, citing the “the anticipated increase in financial leverage of the combined companies.” Kraft, the maker of Oreo cookies and Tang powdered drinks, said the deal will result in at least $675 million in annual savings and give it leading positions in India, Brazil and Mexico.
“It’s obviously a good company to a bond investor in the sense that it’s a steady business,” said Jason Brady, a managing director at Santa Fe, New Mexico-based Thornburg Investment Management, which oversees about $55 billion, including Kraft bonds. “When you start levering up to do transformative things, I think bond investors start to get kind of nervous.”
The takeover creates a company with about $50 billion in annual sales, displacing Mars Inc. as the world’s biggest candy maker, according to Euromonitor data. Kraft fell 63 cents, or 2.1 percent, to $28.78 in New York Stock Exchange composite trading.
“I think this deal was a mistake,” Buffett said in a Bloomberg Television interview. “Kraft was very undervalued before. I feel it’s less undervalued after doing this deal.”
Kraft will likely keep its investment-grade ratings, Moody’s Investors Service said. Bonds rated below Baa3 by Moody’s and BBB- by Standard & Poor’s and Fitch are considered below investment grade. The company will “no doubt” sell bonds in the U.S. and Europe to help finance the purchase, Gary Jenkins, head of credit strategy at Evolution Securities Ltd. in London, said yesterday in a note to clients.
Credit-default swaps on the Markit CDX North America Investment-Grade Index Series 13, which is linked to 125 companies and used to speculate on creditworthiness or to hedge against losses, increased 0.5 basis point to 85 basis points yesterday, according to broker Phoenix Partners Group. A rise in the index signals a decline in investor confidence.
The Markit index rose for the sixth day, its longest stretch of gains since August, according to CMA DataVision prices, after China asked banks to cut lending following a record $1.4 trillion of new loans last year. Asian bond risk rose to a one-month high today, with the Markit iTraxx Asia ex- Japan index reaching the highest since Dec. 18, according to CMA.
Investors are concerned that a premature tightening of credit will crimp economic growth worldwide, said Charles Himmelberg, chief credit strategist at New York-based Goldman Sachs Group Inc.
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