Subprime woes spread to loans; stocks next:James Saft

By James Saft

LONDON (Reuters) - It may not be dramatic, it almost certainly will not be quick, and it definitely will not be pretty. A fundamental factor supporting the astonishing recent performance of global markets -- the super easy availability of credit -- is in the process of reversing.

The credit pullback has spread from the mortgage market for subprime, or less creditworthy, borrowers to the most aggressive sectors of corporate and buyout lending -- in part because the hedge funds and complex financing vehicles that extend credit to both have taken a hit in housing finance.

And because the corporate credit market now facing difficulties is the bulwark of private equity, share market valuations may soon come under pressure.

"The deals which were being done in private equity are going slightly astray," said Albert Edwards, global head of asset allocation at Dresdner Kleinwort in London.

"A lot of the stock market has a bid premium, apart from the mega caps. If companies have problems getting debt paper away, the big marginal bidder goes away."

The MSCI World equity index hit a lifetime high on Monday, with much of the excitement based on the idea of more bids from private equity buyers yet to come.

But the richness of those bids depends in turn on readily available cheap financing, often dispensing with the traditional strictures on what borrowers can do with the money and with their businesses.

A number of high yield bond and leveraged loan offerings supporting such bids have been scrapped, postponed or restructured due to market resistance.

Ratings agency Fitch said in a Friday report that of six deals that have been pulled or postponed since late June -- U.S. Foodservice (UFS.N), ServiceMaster SVM.N, Magnum Coal, Catalyst Paper Corp., Swift & Co. and Quebecor Media -- it is estimated that a total of nearly $13 billion of debt could be bridged by the underwriters.

On Monday, a 1.075 billion euro loan backing the buyout of Dutch retailer Maxeda DIY was pulled after its structure, which gave lenders little say over how the borrower managed its balance sheet in future, failed to attract sufficient commitments.

While that may be small in proportion to the overall amount of debt being extended and buyouts offered, the leveraged markets are not based on underwriters actually holding large amounts of the debt: indeed, it is quite the opposite of how they see their role, raising the possibility that they will not be so quick to underwrite future deals.

Other measures of the willingness to lend are showing signs of strain. The iTraxx Crossover index ITCRS5EA=GFI, which measures the cost of insuring a group of European below investment grade names against default, widened sharply after the Maxeda news.

The index has now moved more than 95 basis points wider, or about 50 percent, since mid June.

If credit markets demand more payment to take on the same risk, or simply won't do some deals at any price, the flow of private equity and leveraged buyouts, much less debt-financed share repurchases, must be in doubt.

THE SUBPRIME CONNECTION