- by Suki Mann
|10 Yr Bund
|iBoxx Corp IG
|iBoxx Corp HY
|10 Yr US T-Bond
|FTSE 100 7,755.93, -13.21||DAX 13,246.33, +45.82||S&P 500 2,776.42, -9.82|
Strap on some risk…
US hiring might have come in lower than expectations (261k actual vs 340k expected), but it was a big ‘corrective’ number and the picture remains promising as the economic outlook brightens. We have a firming recovery, the US unemployment rate dropped to its lowest rate for over 17 years to 4.1% – while wage growth also declined (to 2.4% year on year from 2.8% the previous month).
That’s all good news for investors! We think that there ought to be a real zest about the markets because the trajectory of an economy blowing not too hot or too cold is just about perfect at this stage of the economic recovery, along with a drawn-out rate normalisation process.
The market reaction to the non-farm report saw bond yields drop initially, but they soon edged up again only to close lower as the US session played out. The 10-year US Treasury declined to 2.33% (-2bp). In Europe, Bunds in the same maturity were yielding 0.36% (-1bp), Gilts 1.27% (+1bp) while peripheral government bonds were slightly better bid (Bonos, 1.47%, -2bp).
Equities were not sure what to make of it initially, trading a small up but with little of the gusto seen of late. However, later into the US session, they managed to get some wind behind them such that we saw markets close again at record levels (for the S&P, Dow and Nasdaq). Europe has something to follow when it opens for business.
Credit markets are certainly going to be looking at it very positively – just like they have been – and we must be thinking in terms of a continuation in the squeeze in spreads that we have observed for the best part of the last couple of months. There are few unknowns now into year-end which might derail us. For example, it’s an odds-on certainty that we will get the US rate rise in December. But running into the new year the path is a little less clear in terms of how many hikes we might see. Certainly less than more if inflation remains subdued.
For now, we just edged better in last week’s final session, with the iBoxx index at 95.4bp (-0.4bp) and now just a basis point away from establishing a new record low for this index. Philip Morris was the only IG non-financial borrower in a market which was never really going to be active, given the focus on non-farms.
Higher beta debt valuations didn’t quite exhibit the ratchet tighter we have been used to of late, but the moderate squeeze across the board made sure they all fell deeper into record territory. This might well be the pattern for these markets which are illiquid in secondary and investors face a less or non-accommodative Street unwilling to let paper go (cheaply anyway).
In summary, the data flow across the US and Europe point to a continuation of a Goldilocks-like economic recovery. That will need careful monitoring by ever-vigilant central banks and require a measured policy response. We would think that low rates are still with us for next year as that cautious policy response sees minimal interest rate hikes.
In the US, will it be two or three? The ECB is unlikely going to move as it grapples with its taper issues (or should we say reduced QE purchases?). The BoE looks like it is done for the foreseeable future after that 25bp move last week.
That should limit any material rise in market rates – duration players will be getting ahead of the curve. Equities should be going higher as long as earnings can justify it, although any US tax reform might offer a supportive boost. Credit spreads? Tighter and into record territory across the board. The trend is …
Primary outlook unpredictable
After less than expected issuance in the investment grade markets over the past several months, we’re not necessarily holding out for issuers to be gushing in their willingness to get deals away from now until year-end. They have the added distraction – or excuse – of using the European earnings season as reason to stay sidelined. And they can afford to given their bulging balance sheets.
Furthermore, if the policy accommodation plays out as expected, then funding costs can get materially lower over the next few months into the spread tightening environment. It might pay to wait.
Last week, we closed out with Philip Morris raising €1bn in a dual tranche 7 and 20-year maturity transaction priced at midswaps+27bp and +52bp, respectively, and around 13-18bp tighter than the initial price talk. So, in the early sessions of November, we’ve had €1.7bn printed in non-financials and the annual run rate at €229.6bn. Last year’s total of €271bn looks unachievable, and at this rate, €250bn would be a good result.
There were just a couple of small prints in the high yield market totalling €480m but at €62.3bn for the full-year, we have smashed the record supply total for any given year in this market. Several borrowers are slated for launch/pricing this week.
Trump on his travels
US President Trump is touring Asia until the middle of next week, and a few choice words from him on his travels might lead to a bit of volatility in asset prices (equities). There’s another round of Brexit talks later in the week, but we would think that they are unlikely to have a meaningful impact on the direction of where the credit markets are heading. The US earnings season draws to a close during the week, but the European one starts to ramp up.
We closed with iTraxx Main at 49.4bp (-0.4bp) and X-Over at 223.3 (-2.2bp) in a positive session for both cash and synthetic markets. The cash Markit iBoxx IG index was tighter at B+95.4bp as mentioned above. We had a similar move in the high yield market with the index left at a new record tight of B+252bp (-2bp).
CoCos had a quiet session after some significant moves tighter, the positive mood enough though for prices to squeeze higher and the index was left a couple of basis points lower at B+260bp.
All that’s left is for that one little push early this week to see the IG cash index hit those record tights and thereby squaring the circle with credit spreads at record levels across the board.
Have a good day.
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