1st July 2019

Eurozone rates pencil in depression!

MARKET CLOSE:
iTraxx Main

50.8bp, -1.2bp

iTraxx X-Over

246.8bp, -5.7bp

🇩🇪 10 Yr Bund

-0.36%, -3bp

iBoxx Corp IG

B+124.5bp, -0.5bp

iBoxx Corp HY

B+416.6bp, -2bp

🇺🇸 10 Yr US T-Bond

2.04%, +4bp

🇬🇧 FTSE 100

7017.88, (-1.94%)
🇩🇪 DAX

12790.49, (-1.88%)
🇺🇸 S&P 500

3128.21, (-1.50%)

The market expects…

It could only ever have been a positive session following the weekend’s events. President Trump gave reason aplenty for risk markets to rally as pressure eased on several fronts. Hopes of a reasonable trade tariff outcome, the softening of the US stance on Huawei and, for good measure, the love-in at the Korean demilitarised zone all contributed.

The equity rally took in a fresh record high for the S&P500 index and while US rates gave some back, we didn’t quite get the same trade in European rate markets. Far from it. We set new intraday record low yields in several 10-year benchmarks (Bunds -0.363% and OATs -0.054%, for example). The Bund curve is just 3bp away from being in negative yield territory out to 20-years!

That came courtesy of the poor manufacturing PMI reports across the region showing a further and deeper contraction in June, providing more evidence for the ECB needing to react sooner rather than later. The market is positioned.

Few credit investors will be changing strategy at this point. Overweight credit duration and portfolio beta has paid handsomely so far in 2019, and we don’t think there is reason to change anything for the summer months. Markets will be less active in primary and secondary will just be marked in some sort of correlation to where equities might go. Trump’s weekend efforts will likely carry us through this curtailed week (Independence Day on Thursday/payrolls on Friday), and we probably have a week or so of funding activity to go thereafter before we ‘up-sticks’ for the summer.

The incoming data will be the big driver therefore for markets and we continue to believe that the 10-year benchmark Bund yield will see -0.50% at some point, possibly quite soon. The move to that level will set the stage for both the ECB and for the credit markets. That is, we’re positioning for a resumption in the ECB’s quantitative easing programme.

IG iBoxx index spreads are now at B+124.5bp and just 2bp off their 2019 tightest level seen at the end of April. June was extremely kind to all markets. The momentum we have, if maintained, will potentially see that spread close to or through B+100bp by the end of August. We haven’t been in double-digit spread territory since March 2018 and the record tight spread is B+83bp.

The implications are clear for other sectors of the credit market too should the bullish tone persist. While focus is usually on the larger IG primary supply and secondary spreads, the high yield and AT1 markets are going to deliver the best performances again in July.


Three is the magic number in primary

Merck KGaA was the sole IG non-financial benchmark borrower in the session (ArcelorMittal added a tap issue) but they made a decent splash of it all. Following on from Medtronic’s second multi-tranche foray which came last week, Merck was in ‘anything you can do, we can do…’ mode – albeit in much smaller fashion. The borrower has a less sizeable acquisition to finance after all.

Merck had lifted €1.5bn in a dual-hybrid format just a couple of weeks ago, but this time took plain vanilla senior funding through a tripe-tranche deal. Merck is the 23rd borrower this year printing three or more tranches in a single visit. In a long 4-year maturity they printed €600m at midswaps+25bp (-25bp versus IPT), issued €600m in an 8-year maturity costing midswaps+45bp (-30bp versus IPT) and printed €800m in a 12-year at midswaps+60bp (-30bp versus IPT). The book was up at €7.4bn.

ArcelorMittal issued €250m in a tap of its Jan 2024 issue at midswaps+125bp (-20bp versus IPT and books were above €1.1bn).

If the day’s issuance of €2.25bn of IG non-financial issuance is a sign of things to come before we break for the summer – likely in a couple of weeks – then we are for a somewhere between €10bn – €15bn of issuance for the month, which is what July typically delivers.

The other deals were in the senior financial market, NIBC issued €500m of a 6-year senior preferred transaction at midswaps+110bp (-30bp versus IPT) and Bank of Ireland also issued €600m of a 5NC4 senior deal at midswaps+115bp (also 30bp inside the initial talk). They were joined by BFCM, which took €1bn in a short 5-year at midswaps+43bp of a senior preferred deal.


Trump gets July off to a flyer

Despite falling back from record intraday highs, the equity market rally got the month off to a fine start. Markets all closed off their best levels, but still recorded gains of up to 1% in Europe, fuelled by the weekend’s events at the G20 summit. The S&P is now less than 2% off the 3,000 mark (as at the time of writing), the Dax around 3% away from a new record high and the FTSE less than 4%.

In line with the Eurozone’s own weak manufacturing sector PMI, UK manufacturing was also in ‘slump territory’ with the June number showing the sector recording its largest monthly contraction in six years. Unwinding of high stock levels, Brexit uncertainty and the broad macro slowdown were all to blame. It made sure that Gilts were better bid, the 10-year yield edging to 0.80% (-3bp) while sterling was weaker against the dollar.

The story was elsewhere, though. We saw the 10-year Bund yield achieve a new intraday record low yield and it closed to yield -0.36% (-3bp) and its well on the way to -0.50% (and we think beyond), while even Italian yields on the 10-year BTP crashed through 2.00% to 1.95% (-14bp).

Credit index rallied as protection costs dropped with iTraxx Main lower at 50.8bp (-1.2bp) and X-Over was 5.7bp lower at 246.8bp.

Secondary cash was quiet, but the positive backdrop saw to it that the market was tightened up. Adjusting for month-end index changes, the iBoxx IG cash index spread is now at B+124.5bp (-0.5bp) and the index yield at a new record low of 0.71% – and is likely on its way to 0.50%.

At the other end of the market, the AT1 index tightened by 10bp (B+513bp) and the high yield index was at B+416.6bp (-2bp).

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.