The tax overhaul may cause a snag for debt-hungry pension funds.
Now being refined by the House and Senate, the legislation will likely encourage companies to bring earnings that have been parked overseas back to the U.S. With all that extra cash, firms may borrow less, reducing the supply of investment-grade bonds by as much as 17% next year, according to Bank of America Corp. estimates.
Corporate pension funds, like life insurance companies, are heavy users of corporate bonds.
Corporate pension funds have been increasing their allocations to bonds in the last few years as a way of minimizing volatility. The firms continue to move out of riskier investments in favor of debt, expanding their holdings to $877.5 billion at the end of the third quarter, according to Federal Reserve data. That’s up from $774.2 billion at the end of 2012.
Corporate tax code changes could give companies “greater access to foreign cash, so maybe they don’t have to issue as many bonds,” said Mike Moran, a pension strategist at Goldman Sachs Group Inc.’s asset management arm. A decrease in bonds “could potentially present an issue” for companies that want to buy more fixed-income assets, he said.
Plans affiliated with S&P 500 companies held about 44% in debt last year and 35% in equities, according to Goldman Sachs. Pension funds are pushing into debt for several reasons. Some are working to better match assets with liabilities, a move that tends to favor safer, fixed-income investments over equities, especially corporate bonds. And companies are expected to transfer about $19 billion of pensions to insurers this year, which often have debt-dominated books.
“It almost feels like you can’t open the newspaper or look online without seeing a headline around somebody” looking to decrease risk, said Matt Herrmann, who leads the retirement risk management group at Willis Towers Watson Plc. “It’s been a very active market.”
But the tax overhaul may create a road block. Companies sold about $1.35 trillion of investment-grade bonds in 2016 and $1.42 trillion so far this year, according to data compiled by Bloomberg. If the proposed tax changes are made into law, supply could be down 17% to $1.18 trillion next year, according to Hans Mikkelsen, head of U.S. high grade strategy at Bank of America. Morgan Stanley analysts expect issuance to decline 3%.