28th July 2016

That was exciting – NOT

FTSE 100
6,750, +26
10,320, +72
S&P 500
2,166, -2
iTraxx Main
70bp, +0.5bp
iTraxx X-Over Index
319bp, -1bp
10 Yr Bund
-0.08%, -5bp
iBoxx Corp IG
B+126.8bp, +1bp 
iBoxx Corp HY Index
B+461bp, +2bp
10 Yr US T-Bond
1.52%, -4bp

Fed keeps it unchanged


Fed: Looking to September hike?

So the Fed left it all unchanged and with risks to the US economy diminishing in their view, a September hike is possibly back on the cards. It is not a certainty,though, and futures markets pointed to only a slight increase in those expectations (33%). There were the usual caveats from the Fed – around the need for vigilance, with guarded comments in the communique in case world events derail any sustained semblance of a recovery in the domestic recovery. It was not exciting.

At least we now have a clear run through the next several weeks without having to fret about a rate hike in the US. Treasuries rallied with the 10-year at 1.52% (-4bp) and the 2-year almost 3bp lower at 0.73%. US stocks pared earlier losses ending close to flat. We would think that the markets overall will be underpinned by this move, albeit against limited activity into the holiday weeks. Away from the Fed, we still have the increasing likelihood of a BoE easing in August to look forward to.

European markets rise into the Fed

A weaker than expected US durable goods number for June highlighted the very disjointed nature and recovery dynamics of the current macro growth pathway but it gave some hope that it might put off the day of reckoning for the next Fed rate hike. In addition, pending home sales only rose by 0.2% in June versus May, against expectations of a rise of over 1%. Stocks in Europe (anyway) responded by pushing higher into the afternoon session to close up by 0.5% or more in many cases. Bad news is good news for risk assets. The DAX, though, is now just over 400 points off the level it started the year at, adding a useful 72 points towards that break-even total in the session. Oil prices declined after yet another surprise US inventory build-up in the last week, with Brent failing to hold $44 per barrel into the close.

The weaker US data allied with better than expected Q2 UK GDP numbers (last pre-Brexit hurrah) – because the UK has most definitely started Q3 on a weaker footing (very poor retail sales, for example) according to all surveys – still suggests some easing action by the BoE at their next meeting in August. Government bonds therefore caught a much better bid, leading to some big moves as the 10-year Gilt yield dropped to 0.74% (-0.8bp, and to within touching distance of its record low), with the equivalent Bund yield lower at -0.08% (-5bp).

For the corporate bond market, there was little surprise that primary was closed. We also were using the session to square up portfolios ahead of month-end and weighing up the Fed. Most surprisingly – as far as we are concerned, spreads actually edged a little wider, the Markit iBoxx IG index left at B+126.8bp. However, the big rally in the Bund saw to it that the index yield reached a new record low at 0.88% (-4bp in the session, and -3bp lower than the previous record). An index yield of 0.70% is our target and a greater spread tightening contribution will see us there by year-end. In sterling, the Markit iBoxx index closed unchanged at G+163bp, but the rally in Gilts saw to it that the index yield dropped a stunning 8bp to 2.73% ( a new low for 2016)!

Amid little activity, the HY market was slightly better offered. The Markit iBoxx index was up at B+461bp while the yield went in the other direction, to 4.13% (-1bp).

Otherwise, time for reflection – what else?

It was one of those sessions where the Fed meeting effectively curtailed any meaningful activity. It’s an excuse therefore to take stock as to where the market stands given that the FOMC conveniently falls close enough to month-end to put some numbers together and reflect on performance. Almost unmatched, the clear winners have been the sterling and euro-denominated corporate bond markets returning some 11% and 5.4%, respectively, in the year to date. Sterling spreads are 20bp tighter since January and the Markit iBoxx yield for this longer duration asset class are 108bp lower (at 2.73%). For the euro-denominated index, spreads are 28bp tighter and yields are 88bp lower.

We have generally been spared much single name event risk (“Volkswagen-esque”), while even Brexit fears didn’t derail sterling spread markets by much although they did boost the bid for Gilts, which has helped increase total returns. The ECB’s involvement now will underpin European corporate bond market valuations and keep them on a tightening trajectory for as long as they are active participants in the market.


Teva: Deals have been July’s few highlights

On the supply front, July has largely disappointed. IG non-financial issuance has come in at just €11.65bn and were it not for the €4bn Teva deals, then the month would have been a very poor one. HY markets have seen lots of issuers, but the deals generally have been smaller-sized (Ineos and Bulgarian Energy aside, for example) taking the monthly issuance to €3.2bn, while several larger deals from US banks have kept senior issuance buoyant with €11bn printed. That’s close to being our lot now until the window reopens at the end of August/early September, although we could expect the odd deal to sneak through over the summer weeks, especially in financials.

As for the ECB, they have been lifting bonds by the bucket load – and taking corporate bond debt permanently out of the market, at a rate of around €2bn per week for the past six weeks. They will not be going on a summer break and so will try to keep plugging away through the next few weeks. That activity ought to see spreads continue to grind tighter, although with dealers becoming more savvy with their offers and investors likely not selling into even the most decent of bids, we’re not sure they could keep the weekly average up at even €1.5bn. A slowdown to €1bn or less per week would actually be a welcome reprieve for investors, while in due course, we would think they will settle at a long-term average of €500m per week. The easy “bit” – picking the low-hanging fruit – has been done, so to say.

That wraps it up. Back tomorrow.

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.