Monthly Archives: October 2018

31st October 2018

Grim reaper’s back in his box

Ending with a bounce, but beware!… A new month, thank goodness. Although we ended October on the front foot, we’re hoping it can’t get any worse through to year-end, can it? Drawing a line in the sand is just what we might need following the grimmest of months for markets as risk pricing came under […]
Subscribers can log in to continue reading. Otherwise, purchase The Monthly Access Pass or One Year Subscription to become a subscriber.
30th October 2018

Be afraid

iTraxx Main

76.0bp, +0.6bp

iTraxx X-Over

302.5bp, +2bp

🇩🇪 10 Yr Bund

0.37%, -1bp

iBoxx Corp IG

B+146.6bp, +1.2bp

iBoxx Corp HY

B+438.6bp, unchanged

🇺🇸 10 Yr US T-Bond

3.11%, +2bp

🇬🇧 FTSE 100

5,415.50, (-1.18%)
🇩🇪 DAX

9525.77, (-0.47%)
🇺🇸 S&P 500

2488.65, (-1.51%)

And not just because it’s Halloween…

Rallies are all too often becoming false dawns, leaving us to genuinely believe we could be at an inflection point for the markets. That means there will be no theme until we get some better clues as to where we are going. Treading water is a well-known survival technique until a ship arrives. It is eerily quiet in the corporate bond market resulting in volumes and confidence at rock bottom levels, with sentiment impacted by the huge levels of intra-day volatility in equities.

Continue reading

30th October 2018

🏦 Bank Capital: Changing Perceptions

Earnings picture – More of the same but it’s all about perception from here

The European bank earnings season continues with HSBC, BNP & BBVA all reporting in the last two days. All three banks reported better than expected net income and improved operating performance relative to Q3 2017.  However, the share price reaction in the respective banks’ post announcement reflects the differing investor perception of future prospects.

All three banks have a common thread – diversified business models with a strong domestic franchise and large international presence, especially in EM. The standout feature is that HSBC is in fast-growing Asian markets where it is a dominant player and is able to use its retail banking franchise as a solid platform to cross-sell other services.

Positive jaws make all the difference

HSBC: Positive jaws

HSBC stock is up almost 5% in the last few days as the bank reported positive jaws with revenue growth in its key Asian markets comfortably outpacing costs.  With a low level of loan loss impairments, the bank delivered a double-digit return on tangible equity (RoTE) in most of its business divisions with the Retail Bank & Wealth Management Unit reporting a very strong 22% RoTE.

HSBC’s key strength permeates from its very strong deposit-taking franchise (especially in Asian markets) and this is reflected in the loan-to-deposit ratio of 73% –  hence very little reliance on wholesale markets for funding. With very little margin pressure, the bank is able to generate stable net interest income and any loan growth/cross-selling of products leads to revenue growth. Capital metrics continue to be strong with a reported CET1 of 14.3% and a leverage ratio of 5.4%.

The real question going forward is the sustainability of the very low loan loss impairment charges (Q3 18: 0.30%) and what happens if there is a full-blown recession/slowdown in the Asian markets. Pre-provision income is robust enough to handle a large spike in loan losses but earnings growth/momentum may yet be impacted. Delivering positive jaws in operating performance is welcome but it remains to be seen if it will change equity investor perception for a permanent re-rating.

FICC is in a pickle

BNP reported earnings that would have normally been sufficient to please most investors. Yet, the stock was down almost 4% post-announcement. It seems that the ongoing drop in revenues in CIB (especially in FICC business) is causing investors to reassess forward-looking earnings momentum. The key issue is – how to get revenue growth within FICC business (which is undergoing fundamental structural change) and yet keep the cost base low?  In addition, the bank’s presence in Italy and Turkey exposes it to potentially higher loan losses in coming periods. Risk management has been the bank’s strength over the years and hence is well placed to handle this.

Asset quality and liquidity metrics are holding up very well.   In my personal view, the bank’s reported capital metrics are just about fine with a CET 1 ratio of 11.7% and a leverage ratio of 4%. Further, some of the bank’s large cap global peers report much higher capital metrics, especially on leverage ratio, and the bank may yet need to build further capital buffers or reduce risk exposure in coming periods.  In my opinion, BNP used to be a very defensive play within the European banks but of late some underlying issues have crept up.

All about Turkey and LATAM

Better reported earnings for BBVA

BBVA (stock was down almost 3%) reported earnings that were much better across the spectrum with positive operating jaws and low loan loss impairments. However, earnings were boosted by a one-off EUR 633 million gain from the disposal of BBVA Chile.

Overall, ROTE of 14.8% is decent and reflects the strength of the bank’s retail banking franchise.  Asset quality continues to improve with falling NPLs and “low” cost of risk. Capital metrics look decent with a CET1 ratio of 11.4% and a leverage ratio of 6.6%. With the bank’s AT1 and LT2 buckets fully covered, the likelihood of further issuance is limited.

The real issue is the bank’s presence/exposure in Turkey and LATAM (Mexico, Peru, Columbia and Argentina). Clearly, equity investors are starting to apply a much higher equity risk premium and now seen as an EM proxy. Perception is reality in some cases, it seems.

What this means for credit folks

Purely on a standalone basis, all three banks have good credit profiles. But each one of them has separate mmacro-related issues to contend with – HSBC (potential China slowdown and Asia recession), BNP (Italy, structural issues in FICC land), BBVA (periphery spread widening, EM sell-off) and to that extent credit spread will be impacted by overall risk perception especially from an equity investor angle.

BNP and BBVA equity is trading at a big discount to tangible net asset value reflecting some of the macro headwinds and underlying business model factors. Within sub debt, it appears to me that the AT1s issued by the three banks will continue to be driven by the ongoing rates and equities volatility and market liquidity issues. Senior parts of the capital structure especially for HSBC and BNP should hold up reasonably well from a spread widening perspective.

29th October 2018

Glass half full?

Dead cats and all that… Sometimes, it must be so tempting to pile back in. There are a few more in the market now thinking that it is oversold and when equities fight back with some gusto in any session after a series of consecutive sharply lower closes, the temptation to get involved and chase […]
Subscribers can log in to continue reading. Otherwise, purchase The Monthly Access Pass or One Year Subscription to become a subscriber.
28th October 2018

🏦 Bank Capital 🆕 (Free Content)

Welcome to the first edition of Bank Capital, GJ Prasad’s new column on focusing on bank capital instruments.

It is getting tougher to please..

It has been a tough week for bank stocks globally as reflected in the almost 5%+ drop in XLF in the US and 6% drop in SX7E in Europe and it just did not matter in terms of single names.

We had a number of large-cap European banks (Barclays, DB, Lloyds, UBS, RBS) report Q3 earnings and despite decent earnings from the banks, the sector sold off on macro worries, Brexit uncertainties, Italian politics and potential disruption to business models going forward.

It seems that equity investors are starting to apprehend that banks may no longer be growth stocks but potential value traps.

A Tale of Two Investment Banks

Deutsche Bank stock was down almost 10% on the week as equity investors were not particularly impressed with the revenues trajectory especially in FICC business. Though the bank reported overall net income that was better than expected, the underlying numbers reflected the difficult state of play and the headwinds faced by the bank. ROTE is around 1.7% and the bank is targeting a 4% ROTE by 2019. Tangible net asset value is EUR 25.81 and stock is now trading around EUR 8.5, reflecting deep investor scepticism over its turnaround prospects. The cost to income ratio of 90% is just not sustainable for any bank.

Yes, revenues need to go up dramatically but the investment banking industry (and especially FICC business) is undergoing a huge structural change. Credit investors may be comforted by the healthy CET1 ratio of 14% and the sound liquidity metrics but can they keep ignoring the very poor profitability and the bank’s equity that trades at 0.34 times tangible net asset value (TNAV)?

Barclays, on the other hand, reported decent results especially in the investment bank and with a standout performance in the equities unit. Markets income is up by 19% and within that FICC up 10%. YTD ROTE at 11% (double-digit for a European bank!!!) reflects ongoing transformation (especially retreat from underperforming international retail businesses) and revenue growth in markets business.

Overall CET1 at 13.2% is decent and the organic capital generation certainly provides plenty of cushion for any Brexit uncertainty. The bank’s stock is trading at a steep discount to reported TNAV and it seems that that bulk of this discount is coming from investor pessimism on the future profitability of the investment bank.

It’s All About Brexit From Here

Lloyds Banking Group and RBS reported earnings that reflected the underlying strength of the UK retail and commercial banking industry. Lloyds continues to report solid earnings, asset quality and capital metrics.

RBS has come a long way in its turnaround story and reported very strong pre-tax operating profits with very low loan loss provisions. RBS CET1 ratio of 16.7% gives the bank plenty of options in capital management and with solid buffers well placed to handle any unexpected turbulence.

Finally, UBS also reported numbers that were better than expected and its reliance on wealth management and private banking coming to the fore. This once again demonstrates the value of identifying key strengths ahead of time and then reinforcing the advantage.

What does it mean for credit?

From a credit investor perspective, in my personal view, Lloyds and UBS are clear defensive names to own in the higher parts of the capital structure in a broad risk sell-off. RBS is now starting to become a sound credit story given its capital and liquidity metrics but the hangover of past restructuring is still there.

Barclays is an interesting example wherein equity seems to look more attractive than the bank’s AT1 purely from an upside/downside perspective. DB is clearly a case of credit investors hoping that the bank’s restructuring pays off and profitability (and more importantly revenues) improves and to that extent driven by overall market perception.

28th October 2018

🗞️ NEW, Free Column: Bank Capital

We have a new column starting this week as we welcome experienced bank capital instruments expert GJ Prasad to the team.

Bank research expert GJ Prasad joins

A senior European bank research specialist with significant breadth/in-depth sector knowledge, GJ has researched bank capital instruments extensively – having covered the asset class for more than 15 years as an analyst and seven years as a risk taker in buy-side roles.

His specialisation includes carrying out detailed financial modelling work on European banks focusing on asset quality, earnings and capital adequacy metrics.

GJ’s deep-dive work focuses on single name selection and extensive risk analysis on capital securities, especially on structural features, issuer credit profile and equity/AT1 valuation.  His Bank Capital articles will initially be made available free of charge (i.e. without the need to purchase a subscription) so we do hope that you get the most out of his posts which will be appearing here regularly.

Welcome, GJ!

28th October 2018

Fat lady finding her voice

iTraxx Main

77.6bp, +2.1bp

iTraxx X-Over

306.6bp, +6.2bp

🇩🇪 10 Yr Bund

0.35%, -5bp

iBoxx Corp IG

B+145.2bp, +2.5bp

iBoxx Corp HY

B+443bp, +10bp

🇺🇸 10 Yr US T-Bond

3.08%, -5bp

🇬🇧 FTSE 100

5415.50, (-1.18%)
🇩🇪 DAX

9525.77, (-0.47%)
🇺🇸 S&P 500

2488.65, (-1.51%)

Buy the dip? Not this time…

If it feels like it, it probably is: put up those barricades. Friday was another bad day after the good recovery on Thursday. The sustainability of any rally continues to elude. And while we fret about the multitude of developing situations on the geopolitical front that are causing periods of angst, it’s simple, good old-fashioned macro that is responsible for the recent dire market performance. And it is all coming out in the earnings season, with a plethora of bellwether, geographically diverse exposed corporates missing on profits and warning on future growth.

Of course, equities are going to be looking overvalued and exposed. Credit is weaker, but secondary market illiquidity is probably containing the fallout for now. The asset class is massively outperforming.

The US economy is almost alone in bucking the trend at the moment. But we are seeing a slowdown in global growth coming from generally higher US market rates amid less accommodative central bank policies. And there is a further loss in confidence across the board as a result of the tariff trade war as corporates and individuals commit less to investment and consumption.

Continue reading

25th October 2018

At last, calm transcends the market

Corporate bonds: can boring be good?… Judging by the more limited moves in European rates of late and the relative firmness in credit, markets are not anticipating a systemic crisis. Fixed income – and the corporate bond market in particular, never the most exciting place to be, is relishing its ‘boring is good’ tag. The […]
Subscribers can log in to continue reading. Otherwise, purchase The Monthly Access Pass or One Year Subscription to become a subscriber.
24th October 2018

In the trenches, again

Still no shining light… Well, what a turn up for the books! My Money Bank was back with its previously postponed bond issue – deciding to bite the bullet and paying up this time for the privilege of a covered bond deal. More importantly, we had Proctor & Gamble and ENBW visit – the former […]
Subscribers can log in to continue reading. Otherwise, purchase The Monthly Access Pass or One Year Subscription to become a subscriber.
23rd October 2018

Humpty Dumpty had a great fall

Market has lost its pizzazz… Having already ready recorded double-digit losses for the year as we started the final week of the month, European equities took another major tumble on Tuesday. Why now? After all, the risks have been obvious for an age. While we previously brushed them aside – and we might still do […]
Subscribers can log in to continue reading. Otherwise, purchase The Monthly Access Pass or One Year Subscription to become a subscriber.
1 2 3