9th February 2020

♠️ Calling a spade a spade

MARKET CLOSE:
iTraxx Main

43.4bp, +0.7bp

iTraxx X-Over

215.5bp, +4bp

🇩🇪 10 Yr Bund

-0.39%, -2bp

iBoxx Corp IG

B+102bp, unchanged

iBoxx Corp HY

B+339.5bp, +2bp

🇺🇸 10 Yr US T-Bond

1.58%, -6bp

🇬🇧 FTSE 100 6001.89, (-0.19%) 🇩🇪 DAX 12764.80, (-0.51%) 🇺🇸 S&P 500 3397.16, (+0.34%)

Cavalier rally…

Much low(er) growth for longer, low(er) rates for longer. Add into the pot reduced consumption levels, declining investment, activity on the wane as the closure of China Inc spreads to other countries then we have the ingredients in place for a synchronised global recession.

Surely those equity market record highs are set for a reverse? Markets are currently trading on expectations that the central banks will come to the rescue and limit the potential for an economic and financial market meltdown.

Increasingly, the coronavirus spread is being talked about as being the market’s Black Swan event, but investors are choosing – or being forced, to ignore it. That’s largely a result of the copious levels of liquidity in their hands needs investing but also because if it materialises that it isn’t such an event, the catch-up trade would be painful.

However, if a pandemic is officially called (likely), and the worst materialises (how long is that piece of string?) with a sudden raft of new cases and a subsequent big jump in deaths, then fear will grip more. Allied with that we are now seeing the economic impact escalate – earnings hits as consumption falls off a cliff in some regions, supply chain disruptions and factory closures, and of course the growing potential for civil disruption.

Our opening gambit a couple of weeks ago was for Chinese growth to decline to 4% this year (6.1% in 2019). However, it is becoming more obvious as events play out, that we’re quite possibly too optimistic. There’s a tipping point somewhere – let’s hope we don’t reach it.

Credit investors have for a while already been adding greater levels of risk in order to get some (positive) returns for their wares. So, in a sense, investors are already positioned (in mind and deed) for a moderate hit to the current lower growth/low rate environment, but a complete catastrophe would necessarily elicit a different response.

Furthermore, we are several weeks into the coronavirus crisis and we think the surprise element of it (shock risk) has probably gone. It’s possibly more akin to a slow/rapidly burning fuse chipping/hammering away at the machinery of global growth. So the potential for investor panic as the virus’ spread is eventually called as being in pandemic-territory is reduced.

We have been through an excellent recovery week. The rising tide of higher equities has boosted sentiment and prices across all risk assets. In credit, higher beta risk has been squeezed hard, for example.

In some sense, the current rally does appear to be cavalier. Black Swan event or not, the global economic outlook is bleak. The data will show those emerging stresses over the coming months, we are looking at Chinese growth this year to come off a 4% handle (6.1% last year).

Because the risks are to the downside, investors are clearly anticipating the low rate regime for longer (and a policy response). So, alongside the need to get invested in higher-yielding assets – while comforted still by the low default rate, the high yield market is showing zero signs of stalling. Secondary markets across the asset classes are holding up well and had been even through that equity volatility we had prior to last week.


High yield primary in the spotlight

And it is the high yield primary market that is in the greatest of form. 2019 was a record year for issuance but in the opening period of the year to Feb 7th, only €3bn was issued. In the same period this year, we have already taken down a stunning €17.6bn from 29 borrowers, getting 39 separate tranches away.

High Yield Issuance. Source: Dealogic, creditmarketdaily.com

It must be said, though, that the IG market burst last week as well. After a disappointing €20bn in January, the opening week of February alone delivered €17.3bn of IG non-financial corporate issuance. Of course, LVMH’s huge haul of €7.75bn (excluding the sterling tranches) was added to by 3-tranche deals from IBM (€3.75bn) and Comcast (€3bn).

What comes next is going depend on how markets generally react this week to the weekend’s developments on the coronavirus. The backdrop has been difficult but markets have been relatively busy, all things considered. But it is a fluid situation and a difficult one for anyone to call.

However, such is the level of demand, the risks of a failed deal – if reasonably transacted (priced, timed) is remote.


Coronavirus dictates the market direction

It’s tempting to think that this week’s data streams might be a focus. But we are quite light on reports. We have Eurozone industrial production for December and Q4 GDP, while in the US it’s retail sales, CPI, industrial production and the Michigan confidence survey.

The earnings season sees more from European corporates, though. Daimler, Volkswagen Tui, Michelin, ThyssenKrupp, Barclays, Commerzbank, RBS and AstraZeneca amongst those which will offer an interesting insight as to how it looks for the region’s companies and banks.

Of course, all that will matter is where we stand on the coronavirus.

As for the week just gone, non-farms were the principal focus coming in at a consensus beating 225k (165k consensus), with the unemployment rate at 3.6% (3.5% previously) and January’s hourly earnings at 0.2% (0.1% previously).

Rates were better bid in last week’s final session with the 10-year benchmark yield all heading lower. The Treasury closed to yield 1.58% (-6bp), the Bund lower at -0.39% (-2bp) and the Gilt 0.57% (-2bp).

Equities gave a little back as well, having previously touched record highs again. The S&P was off 0.54%, the Dax closed 0.45% lower and the FTSE was down by 0.51%. Of course, all were higher, materially, in the week.

In credit, primary was quiet with the only deal of note being the €1bn from Wells Fargo which printed at midswaps+67bp in a 10.5-year, with a couple of deals from real estate groups Accentro and SBB.

IG secondary cash closed unchanged, with the iBoxx index at B+102bp (-3bp in the week). The AT1 market was also unchanged with the index at B+346bp (-30bp in the week), but the underlying rally has returns up at 2.5% already this year.

There was also a touch of weakness in the high yield market, with the index 2.5bp wider at B+339.5bp (-28bp in the week, -6bp this year) – which is still a solid performance given the outlook for macro and the welter of issuance.

Have a good day.

Suki Mann

A 30+ year veteran of the European corporate bond markets and in his role as Credit Strategist, Dr Mann has been ranked number one in the Euromoney Investor Survey eight times in ten years. Previously with Societe Generale and UBS, he now shares views of events in the corporate bond market exclusively here on CreditMarketDaily.com.