Glencore’s big debt a risk for Canadian banks
A wild couple of weeks at commodity giant Glencore PLC roiled global markets and raised concerns that stretch all the way to the Canadian banking sector.
On Sept. 28, shares of the debt-riddled company plunged nearly 30 per cent after a brokerage declared that its equity was essentially worthless at current commodity prices. The stock then began a massive rebound — by Friday, it was more than double its low from the prior week.
It was an absurd amount of volatility for a company as big as Glencore, which has a market value of about $37 billion. But it highlighted a lot of important issues occupying the market: concerns about China, global growth, and debt contagion.
“Glencore just exemplifies everything that’s right and everything that’s wrong with the world of commodities,” said John Stephenson, president of Stephenson & Co. Capital Management. “It’s huge cyclicality.”
The Anglo-Swiss company has nearly US$30 billion of debt, which is far too much in a depressed commodity price environment. Canadian banks are among the parties exposed, bringing the debt issue to the forefront here at home.
Investors are most focused on Glencore’s one- and fiveyear revolving credit facilities, which are worth US$15.3 billion. According to the financial research firm Credit-Sights, the Big Five Canadian banks have committed US$1.6 billion to these facilities. Four of them committed US$350 million each, while Canadian Imperial Bank of Commerce is in for US$200 million. Glencore has drawn US$6.6 billion from the facilities thus far.
But the true bank exposure is far greater. Glencore is unique among commodity companies in that it has very large mining and trading operations. The trading arm creates major risk for the banks that are acting as counterparties and will be on the hook if the company can’t meet its obligations amid increasingly volatile commodity prices. Bank of America analysts said that global banks could have around US$100 billion of Glencore exposure.
“The banking industry may have significantly more exposure to Glencore than is generally appreciated in the market,” they said in a note this week.
The massive credit risk had some people describing Glencore as the Lehman Bros. of commodities last week. Then the stock doubled and that talk dissipated.
Glencore has plenty of options to fix its balance sheet. The company has already laid out a plan to reduce debt by US$10 billion, and asset sales are expected. According to reports, the company is looking to sell a chunk of its agriculture unit as well as metal streams on some of its mines.
“We reject the thesis that Glencore is at risk of a financial freefall,” CreditSights analysts said in a note.
Glencore also said this week that it would slash its zinc output by 500,000 tonnes a year, or roughly 30 per cent. That could help bring the oversupplied zinc market back into balance, and ultimately boost the company’s bottom line. Base metal prices all rallied on Friday after the announcement.
It is unclear if the volatility around Glencore is finally settling down, or whether it will continue in the weeks ahead. The last two weeks have shown that in the commodities universe, circumstances can change very fast.
“I think Glencore was a bit of a lightning rod,” said Ian Nakamoto, director of research at 3Macs.
“When organizations bring down their economic growth forecasts, companies with high debt tend to be targets. The fact that Glencore is large and liquid and in the resource sector made it relatively easy prey for shortsellers.”