23rd October 2015

Shooting from the hip

MARKET CLOSE:
FTSE 100
6,376, +28
DAX
10,492, +254
S&P 500
2,052, +34
iTraxx Main
74bp, -4bp
iTraxx X-Over Index
313bp, -12bp
10 Yr Bund
0.49%
iBoxx Corp IG
B+159.6bp, unch 
iBoxx Corp HY Index
B+507bp, +6bp
10 Yr US T-Bond
2.02%

Market transfixed on the ECB… Draghi offered it all – potential for lowering the deposit rate and some hope, rather expectation, of additional QE this year! What else could he say? We applaud his straight talking. He is no cowboy, but he shot like the best – and from the hip. Let’s be blunt – we are excited that something is most likely going to happen and the day of reckoning nears. So we wait for the next meeting (and the economic data over the next few weeks) and the likelihood of some action, finally. We know the eurozone economy is in dire straits, the euro-currency has been defying gravity and the lending survey earlier this week was just a distraction. Unfortunately for the ECB/Draghi, monetary policy is going to have to do it all. The politicians will not help with easier fiscal policy and/or structural reform. That costs jobs and votes. Still, given easier policy is likely coming, the euro moved lower and equities rallied hard, up by 2.5% across the board expecting the next fix of liquidity to keep them on a high. But equities are not the story here. Bonds are. Eurozone bond yields rallied hard with the 2-year bund yield at a fresh record low of -0.32% (-6bp) and the 10-year down at 0.49% (-7bp). Peripheral yields fell with Italian 10-year BTPs down at 1.45% and Spanish Bonos to 1.58% – both lower by a whopping 16bp! Two-year swap yields went negative too. The Swiss 10-year now yields -0.33%, down 3bp and easier policy expected there too. Race to the bottom? Oh yes. Corporate bonds were obviously boosted by the day’s events in Malta carried along with the risk-on rally and need for yield (see below).

Smart ones have been adding already… We have been championing the virtues of adding risk for a couple of weeks. We would think that with little likely to change anywhere from a macro and policy perspective this side of 2015, that one should be adding risk. Draghi has given us every excuse to now. The old adage holds – add when you can, not when everyone else is. Liquidity was poor but has just worsened. It did exist to some extent and screen prices probably were more reflective of where the market and dealer positions were earlier this week, given the lack of event risk and poor sentiment around risk assets. Not now. Post-ECB we have seen some good spread tightening in the corporate bond market and that will entice more to get involved. Dealers won’t be letting bonds go easily, and spreads will go tighter. Higher beta and peripheral risk will be a big beneficiary of that trade with CoCos and corporate hybrids hopefully going to enjoy bit of a lift-fest.  As it is, it’s impossible to lift anything in the belly of the curve (3-7 years), while longer paper is by appointment only (hit and miss).

Looking brighter into month-end… As we go into the final week of the month we suspect that little will change in terms of activity (flows and volumes) but sentiment has been given a boost. Given we think that the Fed will not act either, the chance of a more sustainable post/pre-Fed rally is quite likely – in euro credit anyway. Draghi has delivered, time for Yellen to do the same. Issuance in euros might pick-up (it could hardly be any worse) and deals will come less cheap to secondaries if they do. There has been some encouraging noise around the super Generali subordinated debt deal (it was cheap). The earnings season has largely disappointed, but the potential for easier policy will now overshadow the reporting period.

So we might not be writing off the month after all… Spreads are around 10bp tighter in the month but all of that has come in first week of October. We’ve done nothing but move sideways all week until Thursday’s session. We have had less than Eur8bn of IG non-financial issuance MTD and less than Eur500m this week – that is very poor. It is the worst October so far for several years on the primary front. Usually, the month is a hive of activity post-summer and pre-Christmas/year-end. Not this time. Strangely, the headwinds should not have caused so much angst for investors or defensiveness from borrowers. Admittedly, we’ve had to contend with idiosyncratic events albeit they being fairly major in those cases (VW, Glencore); the macro risks are clearly to the downside with China’s contribution to the problems potentially escalating them; while the Fed wants to turn, but we don’t think it can or will. Credit has had a torrid time of it, but more recently has behaved itself perhaps only because equities have been very rangebound. That is, there have been no more headline risk of the VW, commodity cycle, Glencore-ilk but an illiquid market has seen to it that investors have preferred to stay sidelined.

We closed out the session amid better spread markets but not accurately reflected in the indices. We were left with the iBoxx IG non-financial index at B+159.6bp or unchanged and the HY index actually wider at B+507bp. We look for better marks by the close on Friday. The iTraxx indices closed much better offered with S24 Main at 74bp (-4bp) and X-Over at 313bp (-12bp). That’s more like it.

Wishing you a good 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.