12th July 2020

💲 ‘Tis the Season

MARKET CLOSE:
iTraxx Main

63.5bp

iTraxx X-Over

376.9bp

🇩🇪 10 Yr Bund

-0.47%, +1bp

iBoxx Corp IG

B+151bp, unchanged

iBoxx Corp HY

B+521bp, +3bp

🇺🇸 10 Yr US T-Bond

0.64%, +1bp

🇬🇧 FTSE 100 5919.58, (+1.49%) 🇩🇪 DAX 12908.99, (+1.62%) 🇺🇸 S&P 500 3483.81, (+0.01%)

Earnings season, what else?…

The US banks are going to kick us off ‘proper’ on Tuesday for this Q2 earnings season with JP Morgan, Citi and Wells Fargo out of the blocks. The reported numbers generally will have been ravaged by the coronavirus-related lockdowns – and we know they won’t be good. Netflix though will likely buck and negative trend, as it reports Q2 earnings on Thursday.

We think that what the banks and corporates tell us about current trading conditions, as well as the outlook for Q3/Q4, is likely where the market focus will be.

Allied with the usual smattering of geopolitical tensions, those outlooks will likely determine the direction of equities over the near and medium term. It seems that in credit, though, the all-important corporate primary market has probably stopped functioning in the way we have been used to, through that record-breaking second quarter. Primary activity is likely going to remain light.

The deals are there to get done, though. And has been shown, there is still oodles of investor demand. There is a decent pipeline in high yield especially, and we are of the view that this market will continue to pump out deals through July and August.

There is going to be some single name event risk to contend with as the opening up of economies around the world doesn’t necessarily – or immediately – feed through into the top line of the neediest entities. However, we don’t think much of the negative news/defaults comes soon. Perhaps it is going to be a 2021 phenomenon.

In IG, companies not in pre-earnings blackout periods might opportunistically look to get deals away, if required. We had that great start with Bayer’s €6bn jumbo issue at the start of July (and just €2.8bn last week), and IG non-financial issuance is at €10bn for the month so far. It’s looking like the best we might get could probably be another €10bn at most in July. Opportunistic deals, like the Auchan deal on Friday (€750m, 7-year, midswaps+365bp), might be the way forward.

We are just about at the halfway stage for the month, and credit spreads haven’t done too badly either. The IG iBoxx index is 5bp tighter at B+151bp thus far, but completely unmoved in the past week. We’ve had lower supply, but equity volatility and developing situations (second waves/China) have meant investors are sidelined and loathe to chase anything.

IG sterling corporates spreads are also performing well, with he index now at B+170.5bp, around 3bp tighter last week and 7bp for the month, at the half way point. Gilts have rallied hard though and total returns for the month are approaching 1% already. For the year to date, investors are consoled with returns (iBoxx index) at +3.8%!

That higher level of circumspection has seen moderate weakness though in the bank AT1 market, perhaps added to by some fear as to what the earnings season might bring up. We closed the index last week at B+717bp, representing a 25bp weakness in the final session, but it is still 13bp tighter in the month so far.

The high yield market is displaying some strength, it would seem. It’s been very stable and currently showing little sign of looking like it might be about to feel a little hot under the collar. The HY iBoxx index is currently at B+521bp, 19bp tighter this month and flat last week. And supply is picking up – which is probably injecting some confidence into the sector.

€5.3bn of HY debt has been printed in the opening couple of weeks, and we are up at €46.3bn for the year to date. We should be through the €50bn barrier for HY issuance during the next few weeks.


Headwinds, but surmountable

There is still much to think about through the quarter. Virus outbreaks continue to spread through the US and many other (poorer) countries around the world. We’re seeing second waves in some Asian nations, too. The China/Hong Kong situation looks like it is morphing into something potentially uncontrollable – for everyone.

Visa rights and so forth are being dished out by some countries and at the moment China is lashing out. The general feeling is that Xi has probably over played his hand. And then there is the Huawei saga where the UK government is very shortly expected to make a decision on the company’s involvement in the roll-out of the 5G network. The Chinese government’s involvement in the inevitable (?) repercussions will be interesting.

And then there is the upcoming US election. Right now, Biden is way out in front in the polls, but the debate around BLM isn’t one that is lost on Trump and his strategy will continue to evolve. With 4-months to go, the final result might yet still surprise.

In the meantime the markets plough on. We’re into the traditional summer lull from an activity perspective and we have a bit of a clear run for the earnings season as a result. This week though, the ECB meets, we have the UK Huawei decision likely and there is the Bastille Day celebrations/holiday in France. So lower levels of activity, therefore, might see a disproportionate move in risk pricing (in either direction). And that is something we might have to expect and get used to this period.

We are still positive, though. We like the corporate bond market. It has held up very well this year despite that wobble in late Feb/March. And the receptivity to deals has been excellent. Liquidity has found its way into this fixed income asset class and offered some tremendous support.

This week’s economics news has UK and Eurozone manufacturing production for May (on Tuesday) along with the German Zew survey for July. There’s also UK GDP for May and that is expected to show a big recovery and the first part of what might be a V-recovery. We follow up with UK inflation data on Wednesday and US industrial production.

Chinese data on industrial production, retail sales and Q2 GDP are all on Thursday. The Chinese data is expected to show a bounce back in growth in Q2 with forecasts of +9.6% (versus -9.8% in Q1).

There’s also the ECB meeting, the rate decision due on Thursday. There will be no changes on rates bu credit market investors will be looking for signs that the QE programme might be extended to buying fallen angel corporate debt. Then there’s the EU Summit on Friday, with Germany at the helm for the next six months with the €750m recovery fund top of the agenda.

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.