19th May 2016

Swept along with the tide

MARKET CLOSE:
FTSE 100
6,166, -2
DAX
9,943, +53
S&P 500
2,047, unch
iTraxx Main
78bp, +2bp
iTraxx X-Over Index
329bp, +6bp
10 Yr Bund
0.17%, +4bp
iBoxx Corp IG
B+148bp, unch 
iBoxx Corp HY Index
B+501bp, -2bp
10 Yr US T-Bond
1.88%, +11bp

How it seems to have become laborious…

US rate hike or not? Oil at $50 per barrel – and does it matter? Volatile equities and a case of here we go again. Government bond yields usually with a small up, small down, and with an eye on a record lows being established in longer maturities. Stable credit spreads. Almost a blind focus on primary to generate any excitement. And then macro… hopes of recovery and what that might mean for the various asset classes. Mind, we have fears of further weakness and what that might mean for various asset classes too! And it has been like this for a while.

We’ve eked out the earnings gains by cutting costs, cutting capex and investment, raising low-cost debt and managing a steady decline over the past few years. We’ve steered a path through a difficult economic outlook by staving off any mass defaults anywhere (and that includes in oil/commodity-related sectors), thereby preventing a financial crisis. We can’t generate a sustained economic recovery though – anywhere – as we carry the burden of excessive debt. We’re just servicing it (not reducing it) and hoping it will go away. This leaves us stuck in a low-growth environment and with the political will missing to make the tough choices (understandable), we’re likely here for a good while yet.

That’s why higher yielding (definition depends on one’s risk tolerances) fixed income assets ought to be in vogue. For some that means buying 50-year peripheral government debt (a trade too far for us); for others, corporate bonds down to rock-solid widget-making high single-B-at-worst corporates (this works for us).

The data confirms deflation

wall-street

Wall Street reacted to rate hike jitters

The big data print for the session was the inflation number for April, which confirmed that the annual rate was -0.2% for the eurozone. It came in pretty much as expected and therefore had little additional impact on various risk assets. The overnight drop on Wall Street (on rate hike jitters) was felt early on and was the obvious driver of the weakness. Government bonds had a quiet session of it too, barely changed on the day.

Oil is now in that $49-50 per barrel price corridor, with the bulls looking to get their wings as they endeavour to push it above $50. Deflation in the eurozone it might be, but the markets spent the session yesterday fixated by the potential for a rate hike in the US, following the release of the last Fed minutes. Govies reacted with the UST 10-year yield backing up to 1.88% (+11bp) having seen 1.70% a couple of days ago. Gilt yields gapped with the 10-year up at 1.44% (+7bp) while the equivalent Bund yield also jumped to 0.17% (+4bp). No small ups/downs in this session!

And primary.. plenty of it

We had another good session in the primary market. That was to be expected. Coca Cola was fast out of the blocks and everyone’s main focus with a 4-trancher, with Ceske Drahy the other IG non-financial borrower. Telecom Italia also came, but its rating lands it in the HY bucket, though we’re quite sure most of the demand for this borrower’s debt would have been from traditional IG investors. There is always demand for a fallen angel national champion on the cusp of investment-grade: old attitudes towards them die slowly.

Furthermore, the $90bn of demand for Dell’s mega 6-tranche $20bn offering on Tuesday puts paid to concerns of a rate rise and/or jitters around the HY market per se. Admittedly, the Dell issues were low-IG rated and secured, but the broader point was not lost on us – that the hunt for yield through adding corporate bond risk in dollars is showing no sign of abating.

coca cola

4 tranche deal for Coca Cola

So Coca-Cola took €2.2bn in a 4-tranche deal spanning maturities from 18 months to 12 years, with all tranches pricing a massive 20-27bp versus those initial indications! The backdrop of volatile equities made absolutely no difference to the pricing process: we could have thought the leads and/or the issuer might be generous. They weren’t. Coke is a relatively infrequent borrower over here and limited the deals to sizes of €500-€700m per tranche amid the huge demand, allowing the pricing to be rammed tighter. The Ceske deal was for €400m (sub-benchmark, -20bp vs IPT), bringing the total for the day to €2.6bn for IG non-financial issuance and taking the total for the month past the €30bn mark to €31.6bn. In HY, Telecom Italia garnered a €4bn book to raise €1bn in 10-year funding (even this borrower is now able to get a longer maturity than it normally would), inside IPT at a yield of 3.625%. In unsecured financials, BNP lifted €1bn in 10-year funding.

Mid-June FOMC beckons, markets all cock-a-hoop

The Fed minutes suggested we might get some rate action after all come that mid-June meeting, and the markets reacted accordingly. After the close in Europe, we saw some additional pressure on Treasuries (yields up) and a flattening of the curve, while stocks initially edged higher maybe on hopes, we think, that a more buoyant economy would be a godsend for corporate earnings. It didn’t last and US stocks succumbed to the rate jitters, ending the session lower. There are no “get out of jail free” cards being doled out. Before that, we closed out in Europe with equities better bid across the board and 0.5% or more higher.

In credit, we closed secondary markets unchanged with investors focused almost exclusively on primary and happy to clip performance of news deals which are seeing IPTs discarded, like they’re the poorest of indicators for where a deal might price. Why bother with them at all? In HY, the market was also effectively unchanged, but probably better bid for choice, if one was pushed.

Primary will dominate today – and it promises to be a heavy session again, but the machinations around US interest rate risk will have the non-corporate bond market investors’ attention. That means some pressure on EM – equities, credit and FX; and a volatile period for most into the June 14 Fed get together. Good luck.

Back tomorrow.

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.