Sallie Mae bid shows good, bad of debt-laden buyout deals
By ASSOCIATED PRESS
Published April 25, 2007
The $25-billion bid for Sallie Mae illustrates why a buyout-driven frenzy is propelling stock prices higher. But it sends a message that consumers and mortgage holders may find less comforting: All the debt-laden dealmaking could keep interest rates from coming down soon.
The purchase of SLM Corp., commonly referred to as Sallie Mae, by buyout firm J.C. Flowers & Co. and three other investors is being financed in part with $16.5-billion in debt, a move that will likely knock down Sallie Mae's credit rating to junk. That would make it more expensive for the company to borrow money.
No doubt the Federal Reserve is keeping tabs. Its policymakers have been trying to slow down credit creation as part of their drive to keep inflation from accelerating. But super-sized leveraged buyouts, or LBOs, like this show them how plentiful cheap debt still is.
That could steer the Fed from easing monetary policy soon, which would disappoint those on Wall Street who think a slowing economy and some weakening inflationary pressures will lead to lower rates.
From the way investors have been cheering for the record-setting pace of dealmaking, they probably don't recognize the resulting risk to rates.
They've largely had a sharp focus on what company is getting bought out and which one might be next.
This private-equity buying bonanza has provided somewhat of a floor to the stock market in recent months, since investors are reluctant to sell shares they think could be bought.
That has given a huge jolt to stocks, erasing the losses sustained during a temporary, yet pronounced, plunge in late February. The Dow Jones industrial average has surged to record levels and other major market indexes are at six-year highs.
Richard Bernstein, Merrill Lynch's chief investment strategist, warns that the leveraged dealmaking could be "handcuffing" Fed policymakers as they deal with interest rates.
After boosting its overnight lending rate 17 times over two years beginning in June 2004 to slow the economy sufficiently to thwart inflation, the central bankers have left the rate unchanged since last summer at 5.25 percent.
Investors have been anxiously awaiting the central bank's next move - and hoping it's a rate cut, given that the economy has slowed significantly from a growth rate of 3.4 percent in 2006 to the 2.2 percent expansion expected this year.
But Bernstein thinks all the headline-grabbing LBOs show the Fed's efforts to curb credit creation are "impotent." The last thing that the Fed might want to do is make borrowing costs even cheaper by cutting rates.
"The more one reads about the mega-LBOs in the works, the less one should anticipate the Fed preemptively lowering interest rates," Bernstein said in a note to clients.
[Last modified April 25, 2007, 01:10:49]
[an error occurred while processing this directive]