15th January 2016

Nowhere left to hide

MARKET CLOSE:
FTSE 100
5,918, -43
DAX
9,794, -167
S&P 500
1,922, +32
iTraxx Main
90.5bp, +4bp
iTraxx X-Over Index
364bp, +12bp
10 Yr Bund
0.57%
iBoxx Corp IG
B+169bp, +5bp 
iBoxx Corp HY Index
B+572bp, +12bp
10 Yr US T-Bond
2.09%

Nowhere to run… If you can see the lights of an oncoming train, it’s usually too late. We are being swamped with poor news from every quarter. Idiosyncratic or macro, it just keeps coming. If it’s not China (and it wasn’t on Wednesday or Thursday), it’s the US stock market. Or the oil price. Another auto (Renault) potentially caught up in the emissions scandal. Sometimes the poor data. Or a spurious off-hand comment or remark from someone who matters (a Fed governor, for example). The DAX was down by 10.6% ytd at one stage before a US inspired partial recovery left it only 9% lower in two weeks. However, the reasons to be fearful are piling up. And just when we think it’s all over, we get $110bn of demand for a $46bn series of issues from a corporate in the US and rightly ask whether it is all as bad as it looks. Or, to be more precise, is it just that fixed income generated from solid corporate bonds (as long as they are new issues) ought to be a place to be parked right now in a “race to the bottom”? You don’t want to win this one. We have been firm believers throughout the financial crisis that corporate bonds were the next great thing, and that is how it has played out. As evidenced from its size alone, the euro-denominated corporate bond market has grown from Eur700bn in 2007 to Eur2trn now. An era of low and declining rates and macro instability against a backdrop of QE and massive central bank intervention and manipulation has seen to it that the corporate bond market emerged from it in its current form. It has everything except trading liquidity, and unfortunately that can make one feel trapped in times of stress.

Sea of heartache, it might get worse… The US kicked it off into Wednesday’s close as stocks ended sharply lower. We followed suit at the open. The DAX closed yesterday’s session just 1.7% lower (was down 3% at one stage) as a red mist descended on the markets. Credit took a pummelling finally, and the liquid indicators of our market, the synthetic iTraxx indices, visited fresh contract highs as Main rose above 90bp (+14bp YTD). Primary was closed save for SSA deals with, as we might expect, nothing from the corporate sector at all. The winner? Well, it has to be oil! The price of both Brent and WTI has fallen below $30 per barrel in the last couple of sessions, but has managed to rise again. In Thursday’s session, oil was holding above $30 per barrel and actually trading higher in the session (+2.4%). It just feels like the last great stand for the price at $30, as we look for the barrel to roll over and uncover a soft underbelly that sees us all the way down to $20. That will mean more red ink everywhere else. In credit more specifically, and in single names, we have to pick out Renault paper, which is nearly all front-end maturities out to 5 years, and which was up to 100bp wider, while its 5-year CDS was at around 200bp (+90bp) as another emissions storm brewed. Its stock recovered to close 10% lower, having been down 23%. Ouch. Real money accounts were looking to reduce risk as the lessons of VW’s woes were traded on; we would leave any bottom-fishing here to the fast money accounts. Other autos came under pressure (Peugeot because it could, Fiat on accusations of inflating US car sales) while the high yield market was generally having a bad time of it, and in a relatively active session.

But panic and distress lead to opportunity… Yesterday there was a sense of panic, with sellers (if they could find a bid) trying to provide liquidity and desperately cheap assets. But mostly little was getting done and the contagion engulfed all sectors of the corporate bond market, leaving some to describe it as a bloodbath. Spreads ratcheted wider. The outflows haven’t quite materialised yet in any meaningful way, but they will. That might be more of a possibility when month-end valuations go in. That credit will likely have outperformed, say, equities will be no consolation. Unfortunately, even relatively small-selling cares – if they emerge – will see spreads take a leg lower. Why? There is no liquidity. Having said that, there are and will be opportunities – but few are going to pay any attention to them, we realise. We’ve already suggested a broad theme of IG risk and double-B paper, which doesn’t look too clever at the moment. We also suggested US corporate risk for borrowers that printed in euros and who represented a record 26% of the euro-denominated market’s supply in 2016. Their paper in many cases is trading cheap, off 10-15 points in some cases – better to be there than in EM risk. Mind, the 5-year Spain’s Repsol issued a few weeks ago is trading at 90c, to yield over 4%! They might get cheaper – the whole market might – but adding now, when you can, should pay. That’s about as optimistic as one can be at the moment.

The numbers look bad… The Markit iBoxx IG corporate index took a 5bp hit on the day, with index spreads up at B+169bp. That’s a huge 15bp widening for 2016 so far. Returns year-to-date are showing a deficit of just 0.3% though, but only because of support coming from the rally in the Bund. We will take that. Benchmarked investors with a higher beta stance have likely underperformed quite considerably. In HY, 12bp of weakness in the session translates to is 45bp of widening in the early year skirmishes of the year so far. Returns are showing a loss of 1.5%. Main closed at 90.5bp (+4bp) and X-Over at 364bp (+14bp).

The US equity market closed on the front foot, with the S&P up almost 1.7%. That should calm nerves today. Every little bit helps.

Have a good day and a restful weekend. Back Monday

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.