- by Suki Mann
|iTraxx X-Over Index
|10 Yr Bund
|iBoxx Corp IG
|iBoxx Corp HY Index
|10 Yr US T-Bond
Ain’t no stopping European credit…
The opening week of the month has been a very good one for the corporate bond market. Performance (returns) up a few tenths of a percentage point, spreads tighter, plentiful issuance (and no repricing) and enough to keep participants occupied. And that despite occasional jitters in stocks, oil prices flagging then recovering, the euro on a mission to $1.15 and beyond and the economic data flow still more negative than positive. No green shoots of recovery. Much is currently being written about the high yield market in the US and the likelihood of a catastrophic default wave about to be unleashed, admittedly related to the energy and mining sectors. This big bad wolf does not scare us. What don’t we know? The shale gas boom is over – for now. Companies extended themselves and will pay the price through defaults – as will those investors who funded them, mostly aware of the risks.
There will, of course, be collateral damage. Some sort of contagion impact will come, but it should be unlike what we saw before. The defaults won’t materialise in one lump, and we will look back at some sort of normal distribution of them over, say, a 12-month period. The rest of the market will see a default rate at or below the 2% in Europe, in our view. You would have to be unlucky to experience one – unless chosen by design in your investment process (distressed funds). We like the HY market – in Europe. It WILL be a beneficiary of the ECB investment-grade corporate bond purchase programme. There will be an IG crowding-out effect, where the impact will push investors starved of paper and spread/yield into riskier assets – high yield. We saw this in Q1 2015, when the original government bond QE programme (no corporate bond purchases) excited everyone. This time, there will be a real scarcity of corporate bonds. They could just be worth their weight in gold – and it ought not to be a case of iron pyrites.
Default rates diverging
Failing to hold on to a good start
The strong close in the US overnight on Wednesday gave some impetus for European risk asset valuations as we opened better across the board yesterday. It didn’t last. Whether Yen strength or the ECB minutes highlighting a few dissenters to the expansion of the asset purchase programme and the rate cut were the culprits is a close call, but we came off the early positive sentiment with bit of a thud.
On the news flow front, there wasn’t much new to get concerned about. So, European equity losses accelerated into the close and dropped by up to 1.4% while oil was off earlier sessions lows, with Brent left at a little under $40 per barrel (-1%). US stocks came under increasing pressure on renewed growth concerns and Treasuries rallied, the 10-year yield down 7bp to 1.69%. Government bonds from safe-havens were better bid – and here we include Gilts (10-year at 1.33%, -5bp). The latest 10-year Gilt auction sold at the lowest ever yields! 10-year Bund yields were lower at 0.09% (-3bp). Peripheral risk took some pain likely spooked by the potential for further rate easing talk from ECB members as well as in the latest minutes release. Italian, Spanish and Portuguese bond yields were materially higher at 1.39% (+10bp), 1.60% (+9bp) and 3.39% (+23bp), respectively.
Primary flush again, super week
More deals hit the screens in what has been an excellent week for issuance. We now count €12.9bn of IG non-financial corporate issuance from 11 issuers. At this rate we are heading for close to a record month for issuance, and certainly a record for any April, ever. We certainly do not discount the former given the obvious market distortion that is coming our way sometime later in the quarter. Telstra priced its €750m, 10-year transaction some 20-25bp inside the initial guidance, which is about normal given the trend we are seeing at the moment. Surely the penny would have dropped that by now syndicates don’t need to go out with such enticing IPTs. We all know a 15-30bp tightening is coming. We get it. The Telstra book was at around €6bn.
Mondi Finance and Red Electrica were the other non-financial borrowers, but taking just €800m between them. The €500m Mondi deal was priced 25bp inside initial guidance. In financials, Deutsche Bank, Jyske Bank and Credit Agricole were in for senior funding, while BBVA issued a €1bn, PNC5 CoCo. LKQ Italia came up the rear with a €500m HY issue, and priced inside the 4% area initial guidance. Look out for Peugeot – they’re up next. A day where issuance satiated all the different investor palettes.
Secondary was subdued and just a touch wider for choice. As measured by the Markit iBoxx index, IG corporate spreads were 0.75bp wider at B+149bp amid slight weakness in higher beta sectors like CoCos. High yield market spreads also edged out a little, while the HY index yield fell a basis point to 5.0% on the rallying underlying – and to the lowest yield level since early December. While the cash market has become very technical and supported as a result, the credit market’s risk proxies exhibited major weakness with the synthetic indices higher as the cost of protection rose. iTraxx Main was up at 82bp (+5bp) and X-Over some 17bp at 334bp. With US stocks accelerating losses into the close, we will likely open weaker today.
That’s it for this week, have a restful weekend. Back with you on Monday.