Milestones : Interest Rates Hobble Spanish Businesses

Spanish companies, which have been on a huge buying and expansion kick fueled by a strong domestic economy, face growing funding concerns as European Central Bank rate hikes look set to continue. As the economy is slowing, companies in Spain—now more highly leveraged than they were in the past—are relatively highly exposed. As one economist notes, “The most serious problem in Spain is the corporate sector, which has been rapidly running into debt.”

The most serious concern for Spanish corporations is the steady rise in ECB interest rates, which are expected to rise again in June and possibly further down the road. Official comments at an ECB conference in early May suggested that the refinancing rate would likely rise by 25 basis points to 4% next month. ECB president Jean-Claude Trichet refused to rule out the possibility of a further quarterly rise in September.

Spain’s housing market is also suffering as interest rates rise, triggering a sharp slowdown in house price appreciation. Housing price growth slipped from 12% in 2005 to 9% in 2006, and forecasts put it at a lowly 3% for 2007. Market participants are quick to point out that Spain does not have a subprime mortgage market, so it will probably enjoy a softer landing than its counterpart in the United States, which is now dealing will the fallout from the subprime debacle.

Bearish views on the housing market hit corporate share prices and debt capital markets in Spain, with fears of a further downturn sending some stocks tumbling at the end of April. The market saw a sell-off in property stocks that was quickly followed in the construction and banking sectors. In the bond markets, firms launching deals at the end of April were similarly affected. Construction company Obrascon Huarte Lain, for example, launched its debut bond as the sell-off was occurring, and the firm—along with lead managers Calyon, RBS and SG CIB—decided to add a 125 basis point step-up provision in case of a downgrade in order to entice wary investors.

Denise Bedell