Duration risks: fossil fuel bond issuers are betting on a delayed transition
The world's largest oil and gas companies are ramping up the duration of debt issued in a bet against the energy transition, exposing investors to significant risks new research shows
The year 2050 might look very different depending on whom you ask. However, if bond markets are to be believed, oil will remain a crucial part of the global economy. Despite high interest rates leading most bond issuers to shorten the duration of their debt, the world’s largest fossil fuel producers have been increasing their issuance of long-dated debt, exposing investors to substantial risks. These are the findings from a research paper released earlier this month by Josephine Richardson of the Anthropocene Fixed Income Institute.
A notable example is TotalEnergies: the majority of the debt issued by the French oil and gas giant this year is set to mature in 30 to 40 years, well beyond the critical 2050 deadline. While the average maturity for investment-grade debt has decreased over the past couple of years, the maturity of oil and gas debt has increased significantly. Richardson's research reveals: “TotalEnergies has increased its average issuance maturity from 5.7 years to 22.1 years, and BP has increased from 3.3 years to 15.0.”
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If the International Energy Agency's forecasts for the Energy Transition prove accurate, global oil prices could drop by more than 70% by 2050. Yet, this possibility does not appear to be factored into bond markets. Indeed, Equinor predicts that oil prices would remain more or less steady in 2050, at $68 per barrel of Brent Crude in stark contrast to the IEA's prediction of $28 per barrel.
Steady Spread Curves
Richardson’s paper analysed spread curves on long-dated debt issued by Shell, ConocoPhillips, and TotalEnergies. She highlights that, so far, bond spread curves show no sign of steepening. In other words, bond markets seem to operate on the assumption that a decline in oil prices and the resulting erosion of profits for these firms simply won’t occur.
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It is perhaps no coincidence, then, that oil companies have significantly extended their borrowing horizons, defying the wider market trend. By issuing long-dated debt, the risks are ultimately shifted to the buyers of those bonds, Richardson warns.
Hybrid risks
This is especially true for hybrid bonds, which have recently gained popularity among European issuers such as BP, Eni, and TotalEnergies. Hybrid bonds combine elements of equities and fixed income. They attract investors with relatively higher coupons and are advantageous for issuers because they can be accounted for as equity, thus not increasing balance sheet leverage.
However, as investors in Credit Suisse’s contingent convertible bonds (CoCo bonds) may recall, a sudden market correction could result in severe losses. When Credit Suisse revealed its financial troubles last year, investors in CoCo bonds lost their entire investment.
Richardson cautions that investors in long-dated hybrids for oil and gas firms are exposing themselves to highly risky assets: “Firstly, the claims are subordinated, meaning they will rank behind senior unsecured debt following a credit event. Secondly, while in strong market conditions the bonds are typically called by issuers at the first opportunity (usually 5-10 years), in poor market conditions, the bonds can be extended to very long and even perpetual maturities,” she warns.
The full research can be accessed here.
NZI Podcast with Josephine Richardson on climate stewardship for bonds
