- by Suki Mann
|10 Yr Bund
|iBoxx Corp IG
|iBoxx Corp HY
|10 Yr US T-Bond
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Summer sun, something’s begun…
We’re into the final week of June and closing in on the halfway point for the year. The corporate bond market has top marks for what is has delivered. Credit spreads have tightened by more than most could have expected. Returns have excelled for a fixed income class which ought to have come under pressure as rate markets would normally have sold off into a/the cyclical recovery.
We’ve sailed through much destabilising potential event-risk around Brexit, the UK elections, the French elections, President Trump and a couple of rate hikes in the US. Actually, most risk assets have had a stellar year of it so far. There is more being said now about the ‘toppy’ nature of markets – especially equities, and we might have stalled on the push higher in the middle weeks of June as a result, although the declining oil price probably had more to do with it.
Is it enough just to think we’re due a correction, because… well, just because? Asset prices have been rising for a while, the VIX index has been at or below 10% for too long, forward multiples are too rich, and we’ve had a couple of rate hikes in the US and nothing has wobbled.
We need an event.
Why? Because inflation isn’t looking like it is running rampant anywhere – except in the UK. And that’s imported inflation whereas domestic inflation looks quite subdued. Global growth is also only rising and coming off very low levels and it is by no way assured that growth in the US is about to take off (actually, it is likely to slow). It is only in the Eurozone we have some signs that growth dynamics are beginning to emerge with some sort of a more solid footing in which to work off.
And there’s more. This is the sort of market/reaction that the policy makers had been hoping to construct. They’ve got it. They saved the world from financial armageddon (2008) by flooding it with liquidity. To do this they cut rates to the bone – and more, and let a period of stability ensue (2009-2017 – and admittedly for a little longer than they might have wanted). They later backed it up with a QE programmes just to keep it all ticking over and reinforce financial stability. Only recently have they been thinking about – or enacting, the exit strategy (that is, in 2016 for the Fed, 2017 for the ECB, and probably 2018 for the BoE).
So of course, asset prices look overvalued by traditional measures, but we have also had an unprecedented level of market manipulation by the central banks that have promoted the situation. They’re nowhere near to normalising policy either. And we’re not ready to call the end of it, just yet.
Credit markets turn it on in the first half
As we approach the half-way stage, investment grade spreads as measured by the Markit iBoxx index, are at B+114.8bp and less than a basis point off the tights for this year. For the month so far, they are 5bp tighter. It’s been a good month.
As for the sterling IG market, at G+135.3bp, the index resides at the lowest level since March 2015. These are not the lowest levels seen in these two indices. The former still has 20bp to go, for example. Should the current pace of tightening be maintained, it suggests we might get there by year-end.
The story of the year in the corporate bond market thus far has been the high yield sector. Friday wasn’t kind, though! The index widened by a massive 10bp to B+316bp and leaving it just 7bp tighter this month so far (but a stunning 23% or 98bp tighter YTD).
We think that some equity weakness played into the high yield market and a bit of catch-up into the weekend resulted in a defensive bid, and wider spreads. We still think a sub-300bp level is likely, soon. Returns YTD sit at just under 4%.
The synthetic indices have also had a good time of it, highlighting the continuing ongoing comfort investors have with the market. Admittedly, it’s not all been plain sailing but at 53.5bp (-0.5bp on Friday) and 233.7bp (-0.4bp) for iTraxx Main and X-Over, respectively, they’re residing at or close to multi-year lows. This is a good sign although we are acutely aware that an abrupt reversal in the decline to insure credit can occur, especially if equities sell-off in any meaningful way.
Primary market should be in good form
We are looking for a good end to the month from this week’s primary sector. In the IG non-financial market, last week got stuck at €9.82bn with nothing issued on Thursday or Friday. The month to date total is a respectable €23.1bn and exceeds the average €11bn of the previous two years. However, we have been expecting somewhere of the order of €30bn for the month and this is now quite possible.
As for high yield, after a stunning opening two weeks which saw over €6bn in supply, last week delivered just €390m with a €40m tap issue followed by that late deal by Federal-Mogul. Manutencoop has delayed its €420m deal for business this week – the company hopes – after investors needed more time to digest the borrowers credit metrics amid the potential for covenant changes and/or due diligence around numerous legal proceedings the Italian company is facing.
Other than that, there is little by way of macro which matters this week. There’s German IFO data as we start, US consumer confidence and, at a stretch, the UK current account to look forward to. The Fed also releases results of the latest bank stress tests.
Have a good day.
For the latest on corporate bonds from financial news sources, click here.