3rd December 2015

Size will matter

FTSE 100
6,421, +25
11,190, -71
S&P 500
2,080, -23
iTraxx Main
69bp, +0.5bp
iTraxx X-Over Index
285bp, +2bp
10 Yr Bund
iBoxx Corp IG
B+148.3bp, -0.5bp 
iBoxx Corp HY Index
B+473bp, -0.5bp
10 Yr US T-Bond

It needs to be an epic day… There’s a buzz and at the same time no little apprehension about the market right now. As the ECB promises – or rather the market expects – to be back in virgin territory on monetary policy, the build-up has reached crescendo-like proportions. It’s going to save the world – for a month, anyway. Then we can get back to the business of watching the data (core inflation for November YoY/MoM, or however one measures it, actually declined in the eurozone), the effectiveness of whatever is announced later today, and then on to speculating the next easing move. Because, as we suggested in yesterday’s note, there will most likely be further easing moves somewhere down the line (Q2 2016). And this is why credit works as a fixed income investment choice, why all those retail investors will remain attracted to the asset class and why institutional investors will continue as they are with oodles of cash to invest, while worrying about the next deal and whether they will get their fill of required bonds. Money will stay with the asset class, more might come in, and credit ‘macro’ strategies will centre around taking on more risk, whether that means going down the credit curve some more and/or extending duration. They will all work. Our asset class might once again return less than equities, but we will have little of the volatility that comes with event risk (macro, idiosyncratic or other) that usually impacts the most liquid asset class the most (and first). Time for the ECB to do its thing.

Size will matter more than longevity… The ECB may well extend the current QE programme past the September 2016 date. But the market will be looking for an expansion in the size of the current buying fest (Eur60bn per month) as well as its prolongingation way beyond next year’s September marker. We think a deposit cut of sorts will also be, or ought to be, announced. We need a 10bp cut just to keep going, or 20-25bp for shock and awe impact. Unfortunately, this will only be giving risk assets a short-term boost and maybe economic activity a small kicker too. Thereafter, it will be back to square one (see above). Much-needed structural reform is as far away as ever. Until then, the eurozone’s problems are not going to be addressed, let alone resolved. So we look for eurozone government bond yields to fall further, equities to rise despite the prospects of lower earnings, and corporate bond spreads following in their slipstream to tighten. We might finally see a crunch better in spreads – initially anyway, with high-beta corporate bonds leading the way – and then some stability and investor frustration as they look to the primary market to get their fill of bonds. Christmas can’t come soon enough.

The day before… panned out in subdued fashion for the corporate bond market. Equities bubbled early on, but ended up playing out in range-bound fashion in a tight complex around zero! Some were up, some were down and it was a case of few wanting to show their hand before today’s big deal. The main talking points were around the aforementioned inflation data, and we at least had front-end Bund yields anchored at those record lows (2-year at -0.45%), while the 10-year yield backed up a tick (0.47%). The search for yield is clearly going to benefit the periphery, and Italy and Spain will see their longer-dated yields move lower, allowing a follow-on impact on their respective corporate sectors. Spain has underperformed on worries around Podemos and Catalonia secession risks. And so, year-to-date, yields for BTPs and Bonos in 10-years have declined by 49bp and 12bp, respectively. They will go lower. There is easily 30-40bp of juice left in them, in our view, with Italy currently yielding at 1.40% and Spain 1.49%. The lows earlier this year after all were 1.13% and 1.15bp, respectively. With OATs at 78bp, there considerable room for yields to decline there too! The ECB is a marginal buyer with the deepest pockets of them all, few will fight it.

Corporate bond market waiting… SCOR printed a subordinated deal following on from CBP Assurances’ deal yesterday and BPCE lifted Eur300m senior funding in the latest green bond. Iceland’s Islandsbanki also did a small tap of its July 18 issue. We would think today (Thursday) will offer nothing in primary. In the secondary cash market, there was a moderately better tone leaving spreads to edge tighter for choice. However, weaker European equities saw to it that the synthetic indices (protection costs) moved a little higher.

And finally, Yellen’s New York musings overnight have basically nailed in a US rate rise at the next FOMC. US stocks have reacted as if this was a surprise, down over 1%. Pfffff. Over to Draghi et al.

Have a chilled Thursday.

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.