4th February 2020

🗞️ Growth down, credit firm

MARKET CLOSE:
iTraxx Main

43.8bp, -1.9bp

iTraxx X-Over

217.5bp, -9.5bp

🇩🇪 10 Yr Bund

-0.41%, +2bp

iBoxx Corp IG

B+104bp, -1bp

iBoxx Corp HY

B+353bp, -8bp

🇺🇸 10 Yr US T-Bond

1.60%, +8bp

🇬🇧 FTSE 100 6176.19, (+1.33%) 🇩🇪 DAX 12799.97, (+1.32%) 🇺🇸 S&P 500 3185.04, (+1.01%)

And credit holds firm as volatility besets risk assets…

Amid much volatility into the deep sell-off last week, this week so far has seen a stellar recovery in risk markets. Equities are flying again and in most cases, bourses are back in the black for the year.

Rates are better offered, but we sense a more tentative investor, here in Europe anyway. Credit has become better bid again across the board and primary has re-opened with a flourish.

Credit markets, though, had not been spared the weakness besetting risk assets as a result of the coronavirus’ emergence. Corporate bond spreads are wider in all sectors except in the sterling and AT1 markets, this year. However, the rally in the underlying, safe haven risk-free government bond market has seen corporate bond yields (iBoxx index) crunch lower.

In fact, in most corporate bond sectors, index yields are declining despite that spread weakness (which has been moderate given the equity volatility). But only in the sterling, euro-denominated AT1 and non-financial corporate hybrid markets are yields close to their record lows – now just around 4bp, 35bp and 7bp off them, respectively.

So we have had a limited spread impact in sterling corporate credit and the CoCo market. The reasons are several. Few are going to sell CoCo because of the bid for anything which has a decent yield. Spreads are 20bp tighter.

It’s likely an overweight sector recommendation for this year for most portfolios. The bonds are like gold dust. And after last year’s 15%+ returns, it is still delivering this year (+1.4% in January).

In sterling, spreads are 5bp tighter on the index (euro-IG is +2bp in comparison, end January). There’s never a huge amount of issuance and there’s a bit of a Brexit-related bounce in demand for the product. It’s helpful that the BoE has room for – and likely will – be cutting rates soon.

The market is a longer-duration one at 8 years (versus 5 years for euro credit) and the Gilt rally has helped the index return an outperforming 2.4% in January. There’s a lot to like.

There is room for the two markets to continue to remain as well supported as they are, and we think investor support will remain in place for 2020.

However, we can’t get too excited about the non-financial corporate hybrid sector (+0.2% returns in January, spreads +19bp). We do recognise that it is a core holding though and supply dynamics are hit and miss. But it is richer than the other two mentioned sectors, in our view.

Overall, European credit has done relatively well in the opening five weeks of the year. Returns are positive across all the various sectors with higher beta credit and sterling markets outperforming as highlighted above. We don’t think any strategies need to change.

That is, the bias of any portfolio should be towards higher beta risk, achieved through moving down the credit curve and taking a slightly longer duration positioning.


Primary spurs into life

The primary markets were in much better shape after several sessions where they took a bit of a back seat.

Given our comment above, Telia issued €500m in a 61NC6.25 green hybrid priced to yield just 1.5%, which was 37.5bp inside the opening guidance with interest for the deal at €3.2bn. Volvo followed up with a €300m 3-year at midswaps+32bp as it took 28bp off the initial guidance at final pricing with books at €2.5bn.

However, IBM’s 3-tranche effort was the biggie in the session. The US giant issued €1.3bn in an 8-year at midswaps+45bp (-20bp versus IPT), €1.6bn in a 12-year at midswaps+60bp (also 20bp inside IPT) and €850m in a 20-year at midswaps+88bp (-22bp versus IPT). Combined books came in at over €8bn for the €3.75bn transaction. It was the third 3-tranche deal of the year (BMW and E.ON the others) but the largest haul.

The senior financial sector was graced with SEB’s 7-year €1bn senior non-preferred at midswaps+58bp (-17bp versus IPT). The month’s high yield issuance kicked off with Banijay Entertainment Group’s €575m of 5NC2 issuance priced to yield 3.5% and €400m of 6NC2.5 debt at 6.5%. they also priced a $403m 5NC2 tranche at a yield of 5.375%.

It’s not a complete session without a sovereign deal. Finland was the day’s issuer in this category, with €3bn printed at midswaps-11bp for 16-years, off books in excess of €21bn.


Hope springs eternal

The impact of the decline in global macro will be felt across the consumer industries (retail and travel especially) as energy consumption will also drop sharply. The knock-on effect will take in the said industries across other non-Chinese markets (Russian border closed, for example) too as supply chains (e.g raw materials) are severely disrupted and consumption levels decline precipitously.

There is an upside to the shutdown of China Inc in that climate emissions will decline sharply. It’s probably not the way we want them to drop in that coordinated global government action would be preferable, but many would take any opportunity/event to see it happen.

Nevertheless, risk markets were again in the ascendancy in the session with European equities adding well over 1% although there was no obvious driver for the ratchet higher. It could be that, in line with how markets have reacted to event-risk over the past few years, they’re ‘dismissing’ the coronavirus too.

Swatted away has been the Brexit issue, Trump’s many interferences – and his impeachment trial, the Iran-US and China-US tensions and now, the impact on global growth that will arise from the spread of the coronavirus. The market continues to expect that the increasingly potential policy easing is still going to be enough to keep the party going.

The wave to enthusiasm saw the FTSE add 1.6% and the Dax rose by 1.8% as the €Stoxx50 registered an improvement of 1.9% in the day. Even sterling improved as the slowdown in UK construction activity declined in January, suggesting that domestic activity might have received a broader boost following the general election and improved political certainty. Fickle.

Mind, the short-squeezed inspired rise in Tesla’s stock trumps everything. The Nasdaq added 2%, the S&P 2.4% and Dow 1.7%, as at the European close. They’re all back in the black year to date!

The other side of the equation resulted in a big back up in rates. The 10-year US Treasury yield rose to 1.60% (+8bp) and the Bund yield in the 10-year was up at -0.41% (+2bp), while the Gilt yield in the same benchmark maturity rose to 0.56% (+4bp).

The cost of credit insurance dropped as we might expect. So iTraxx Main declined by 1.9bp to 43.8bp and X-Over protection declined by 9.5bp to 217.5bp.

In cash, the focus was on primary, but the Street was busy tightening up the offered side of the market. Spreads, as measured by the iBoxx index saw the IG index at B+104bp (-1bp) at the close, while the AT1 index recovered all of Monday’s weakness to move to B+375bp (-11bp).

The high yield market squeezed as well, tightening by 8bp in the index to B+353bp.

Have a good day.

Suki Mann

A 30+ 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 CreditMarketDaily.com.