by Calculated Risk on 7/24/2007 01:15:00 PM

From Bill Gross at PIMCO: Enough is Enough

Over the past few weeks much ... has changed. The mistrust of rating service ratings, the constipation of the new issue market and the liquidity to hedge the obvious in CDX markets has led to current high yield CDX spreads of 400 basis points or more and bank loan spreads of nearly 300. The market in the U.S. seems to be looking towards this week’s large and significant placing/pricing of the Chrysler Finance and Chrysler auto deals to determine what the new level for debt should be. In the U.K., a similarly large deal for BOOTS promises to be the bell cow for European buyers. But the tide appears to be going out for levered equity financiers and in for the passive owl money managers of the debt market. And because it has been a Nova Scotia tide, rising in increments of ten in a matter of hours, it promises to have severe ramifications for those caught in its wake. No longer will double-digit LBO returns be supported by cheap financing and shameless covenants. No longer therefore will stocks be supported so effortlessly by the double-barreled impact of LBOs and company buybacks. The U.S. economy in turn will not benefit from this tidal shift and increasing cost of financing. The Fed tightens credit by raising short-term rates but rarely, if ever, have they raised yields by 150 basis points in a month and a half’s time as has occurred in the high yield market. Those that assert that this is merely an isolated subprime crisis should observe very closely the price and terms that lenders are willing to accept with Chrysler finance this week. That more than anything else may wake them, shake them, and tell them that their world has suddenly changed.
emphasis added

The Chrysler deal will be interesting, and Chrysler finance is probably the best part of the deal (and most easily financed). Back in '89, the failure of the UAL LBO marked the peak of the LBO cycle, however that deal was very different from today since UAL was contingent on obtaining debt financing (if I remember correctly). Now very few deals have contingencies, and we are seeing more and more bridge loans become "pier loans" that end up on the investment banks' balance sheets. See Citi May Be Stuck With Bridge Loans and JPMorgan Marks Down "Hung" Bridge Loan. This probably means the consequences of a failed major deal could be much uglier than in '89.