5th September 2016

The magic number for credit

MARKET CLOSE:
FTSE 100
6,895, +149
DAX
10,684, +150
S&P 500
2,180, +9
iTraxx Main
67.5bp, -1.5bp
iTraxx X-Over Index
309.5bp, -4.5bp
10 Yr Bund
-0.05%, +2bp
iBoxx Corp IG
B+118.75bp, -0.25bp 
iBoxx Corp HY Index
B+414bp, -2bp
10 Yr US T-Bond
1.60%, +3.5bp

Who isn’t scratching their head?…

magic-no

151,000: The magic number for credit?

It seems like 151,000 isn’t the magic number. Or is it? Last Friday’s lower than expected non-farm payroll print has certainly divided opinion. No rate rise as far as we are concerned. The number wasn’t bad, but when taking in the weakness of other US data, we think the Fed will sit out a move at the next meeting.

We also think that words will come easily to Draghi et al at this week’s ECB gathering. they’ll do all they can verbally, and probably lay the groundwork for concrete action at the following meeting. It is far too early for the ECB to know if their current programme is working (we say it isn’t), but they need to get the internal doubters onside. The rest is all noise. Macro isn’t great as we get some bad prints and some not so bad prints.

Markets are reacting in a disjointed manner to the news flow. The more liquid the asset, the greater the move, it seems – it should be the other way around. Equities have reacted to the likelihood of Fed inaction by rising sharply; government bond markets seem to have reacted the other way and sold off a little, while the dollar initially slipped and stumbled before recovering. They’re all telling us different things.

Now that is cleared up, what about the corporate bond market? No change. For this market, 151,000 might be a magic number. Because it means economic risks in the US are possibly skewed to the downside because while labour markets are buoyant the rest isn’t. That will mean that policy reversal will be slow and measured and other central banks will follow that trajectory (eventually, that is, with much delay). So, while it all ticks along, the corporate bond market does too. Tighter in spreads, lower in yield, records being broken, continued inflows, supply absorbed aplomb, high/low beta compression, good performance, continued inflows and the ECB/BoE offering a comforting back-stop bid.

But all the corporate bond market is doing is going through the excruciating grind tighter, and spreads, as measured on an index basis (Markit iBoxx) edged just 0.25bp better in the session at the end of last week. The tightening is consistent – if nothing else – but we’re still anticipating more than the laborious small incremental steps. Just something to move along in more excited fashion instead of relying on new issues to keep us excited and the ECB to keep it all supported, so that we can have a little something more to think about!

Corporate bonds boring? You bet

Equity, government bond, oil and FX markets are all exhibiting levels of volatility we would expect which come with various news titbits on macro. They’re all liquid sectors, while government bond markets in the Eurozone and UK are being manipulated by their respective central banks – but still can exhibit some decent volatility. Not so for corporate bonds. It’s almost become a one-way bet – until it isn’t.

That day of reckoning is a long way off (we need growth and lots of it for the rotation trade) and so the market has become a little tedious again. The ECB’s announcement of bond purchases did give it a shot in the arm, but it has now settled down. That steady grind tighter in spread valuations has become quite boring. The news flow elsewhere doesn’t elicit a flinch in spreads. We’ve said before that corporate bond markets are meant to be boring – buy the bond, clip the coupon, get money back at maturity and buy the next one. That’s still our modus operandi but without the fretting that comes with weak macro or issuer-specific news flow.

Still, we get performance. And for now, that’s all that matters. Boring probably is good.

Easy, tiger!

With just a grind occurring in the IG space, it seems like it has affected the HY one, too, and we saw just 2bp of tightening on an index level into the end of last week. Activity levels are woeful such that even roaring stocks are unable to have much impact on higher yielding credit. At B+414bp for the Markit iBoxx index, that’s still 40bp of tightening in a month with returns exceeding 7% YTD. It also means that the heavy lifting the ECB is undertaking in the IG market is yet to be felt through crowding out in the high yield market. Surely that has to come at some stage.

Schneider Electric

€750m in 8 year funding for Schneider Electric

In addition, the quieter tone in credit saw just moderate tightening in index, with Main at 67.5bp and X-Over at 309.5bp. Schneider Electric did nip in with a deal though kicking off the month for non-financial issuance, lifting €750m in 8 year funding at midswaps+27bp and well inside the initial price talk.

Equities closed between 1.4-3% higher in Europe and a little less than 0.5% in the US. Bond yields moved higher by varying degrees, with the 10-year Gilt yield up at 0.72% (+6bp) after some good economic data in the UK particularly on Thursday (manufacturing), the equivalent Bund at -0.05% (+2bp) and the Treasury at 1.60% (+3.5%). Oil felt a little love after a difficult few days and Brent managed to rise 3% to just under $47 per barrel.

This week has us focusing on the ECB and little else will really matter. The central bank’s weekly corporate bond purchase receipt is published later today. As a reminder, €1.5bn of IG non-financial corporate bonds were accumulated last week, or €19.3bn in the eleven weeks since the corporate bond QE operation began. The weekly average sits at an impressive €1.76bn.

That’s it; Back tomorrow morning. Have a good day.

Suki Mann

A 25-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 Credit Market Daily.