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Nordstrom Pulls a US$500m Bond off the Sale Rack


Senior Market Analyst at Interactive Brokers

High-end department store chain Nordstrom (NYSE: JWN) recently sold US$500m worth of corporate bonds to refinance existing debt at lower rates, amid a general strengthening of consumer support for the retail sector.

Seattle-headquartered Nordstrom – parent to Nordstrom Rack, HauteLook and Trunk Club – priced the low-tier, ‘BBB’-rated, investment-grade notes to decent demand.

The 4.375% debt due April 2030 was sold at a spread of 260 basis points more than matched-maturity U.S. government bonds, following around 15bps of spread compression over the course of the sale.

Nordstrom said it intends to use the net proceeds from the deal to repay or retire all US$500m of its outstanding 4.75% senior notes due 2020, with any excess pegged for general corporate purposes, which may include financing capital expenditures and working capital needs.

The deal was co-lead managed by BofA Securities, J.P. Morgan Securities and U.S. Bancorp Investments.

Although Nordstrom’s issuance comes at a fortuitous time for high grade corporate bonds, especially following the Federal Reserve’s recent interest rate cut, yields have been running higher after a stronger-than-expected jobs report and a general thawing of trade tensions between the U.S. and China.

The yield on the 10-year U.S. Treasury note was bid at around 1.86% Tuesday, after sinking to as low as 1.69% on a ‘closing-day’ basis one day after the Fed’s decision to slash the target range for the federal funds rate by another 25 bps – its third cut in 2019 – to 1.50%-1.75%.

Nuveen analysts Bill Martin and John Miller noted that while the cautious market tone this past week weighed on non-Treasury sector performance, most sectors experienced positive total returns. They observed, for example, that longer duration helped the investment-grade corporate and global aggregate sectors post “slightly higher total returns than Treasuries.”

In the week, high grade corporate securities generated 0.55% in returns compared to 0.52% for U.S. Treasuries, according to Nuveen. Year-to-date, the two asset classes have returned 13.39% and 7.54%, respectively.

Moreover, Martin and Miller highlighted that investment-grade corporate bonds posted the week’s second-highest return among fixed-income sectors, “adding to their strong year-to-date results.”

They added that market technicals “remained favorable, as healthy inflows” of US$2.3bn signaled “solid demand against new-issue supply that fell short of expectations.” Furthermore, October was a “volatile” month for the asset class, with “weekly performance alternating between gains and losses amid earnings, trade, Brexit and Fed-related headlines.”

Indeed, high grade corporate debt continues to lure global investors to the yield offered in the U.S. primary market – especially among those bond buyers who have been priced out of their local markets or have a dearth of available paper.

The yield on the 10-year German Bund, for instance, was hovering at around -0.312% intraday Tuesday, while the Swiss, French, Dutch and Japanese 10-year bond yields each resided below zero.

Against this backdrop, Nordstrom took advantage of the favorable market conditions to bring its deal to market, despite a crowded issuance calendar.

According to Ron Quigley, head of fixed income syndicate at Mischler Financial, Nordstrom’s issuance Monday fell alongside 10 other issuers, who sold a combined US$12.13bn worth of fresh, high grade corporate bonds. Quigley also said he expects around US$27.35bn of new deals to price this week based on the mid-point average of most syndicate managers’ estimates.

Betting on Physical Buildings

Meanwhile, Nordstrom’s refinancing also comes in the wake of the company’s elevated capital spending, amid the building of its latest flagship store in New York City, which has constrained its free cash flow.

However, Moody’s analyst Christina Boni said she expects the company’s leading investments will “reduce friction and support a seamless customer experience,” which should “support improvement in its operational performance.”

Indeed, among its key initiatives, Nordstrom has been eyeing an expansion of its local market strategy to New York City, its largest market for online sales, with the opening of its flagship store, as well as two Nordstrom local neighborhood hubs. The firm said the combination of its physical and digital assets is expected to add “a significant sales lift” in this market.

The lift in revenues would certainly be welcomed, as Nordstrom’s net earnings in the second quarter of 2019 fell to US$141m compared with US$162m during the same period in fiscal 2018, while EBIT fell 5.7% to US$216m on the back of lower sales volume.

Although the company’s earnings of US$0.90 per share in the latest quarter beat expectations, total net sales plunged 5.1%.

In its full- and off-price segments, net sales declined 6.5% and 1.9%, respectively, compared to the same year-ago quarter, while digital sales, which represent 30% of its business, grew 4%.

Moreover, Moody’s Investors Service in late October downgraded the department store’s credit rating to ‘Baa2’ from ‘Baa1’ due largely to the allocation of the company’s excess cash to stock buybacks.

During the six months ended August 3, 2019, Nordstrom repurchased 4.1m shares of its common stock for US$186m, with a total capacity of US$707m still available under its existing share repurchase authorization.

Gimme Credit analyst Carol Levenson recently noted that she endorses Nordstrom management’s decision not to repurchase shares in the quarter in light of the low free cash flow, however declines in EBITDA have “sent leverage higher even without adding any debt, and lease-adjusted debt/EBITDAR remains elevated at nearly 3x.”

She continued that for the luxury chain to meet its newly lowered sales guidance of flat sales for the year, the company needs to return from -4.3% at the half year point. “This seems ambitious, even with a boost from the NY store, tweaking the assortment, and more aggressive marketing,” Levenson added.

While the company’s stock had plummeted more than 62.7% from its most recent 52-week peak of US$67.48 set in early November 2018, its shares have since lifted by around 45.64% from that trough following the August 21 release of its Q2 2019 financial results.

Shoppers’ World

Some optimism about the store’s future may also be attributed to the resilience of the U.S. consumer, especially amid a recent strengthening of labor market conditions.

In fact, domestic consumption appears to have helped the U.S. maintain healthy economic growth, with Federal Bank Reserve chair Jerome Powell having recently extolled consumer confidence and spending gains as “solid.”

In his press conference last week, following the Federal Open Market Committee’s (FOMC) rate cut announcement, Powell said that the country has had an economy “where the consumer is really driving growth,” amid personal consumption expenditures (PCE) that were nearly 3% this quarter in the first reading.

He added that “overall, we see the economy as having been resilient” to the headwinds that “have been blowing this year.”

Rising income, low rates, less debt and growing wealth appear to be among the conditions supporting consumer spending.

BlackRock analyst Russ Koesterich noted, for example, that the “combination of solid wage growth and job creation with modest inflation supports increasing levels of real disposable income.” Also, unlike the previous decade, U.S. consumers are “demonstrating uncharacteristic restraint.

“The household savings rate is a healthy 6.2% — roughly triple the 2005 low. Higher savings balances coupled with an unusually long bull market have pushed household wealth to a record high,” which by Koesterich’s estimates stretch more than US$113tn.

In the meantime, investment-grade corporate bond issuers are likely to continue to flood the primary market with U.S. dollar-denominated deals while interest rates remain low and relative yield remains attractive.

Disclosure: Interactive Brokers

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