20th September 2018

The future is bright for credit

MARKET CLOSE:
iTraxx Main

67.9bp

iTraxx X-Over

266bp

🇩🇪 10 Yr Bund

0.48%, -1bp

iBoxx Corp IG

B+129.8bp, -0.5bp

iBoxx Corp HY

B+379.2bp, -0.8bp

🇺🇸 10 Yr US T-Bond

3.07%, -1bp

🇬🇧 FTSE 100 6090.04, -108.90 🇩🇪 DAX 12901.34, ERROR 🇺🇸 S&P 500 3372.85, ERROR

Scene set for a squeeze in spreads…

Could it be that credit spreads are set for a squeeze tighter through the remaining months of this year? One of the features of the supply seen this month is that books have been oversubscribed by a considerable margin, and deals have been able to be priced tighter by more than the average seen previously this year. The clamour for non-financial IG corporate risk from investors has come about because there hasn’t been the usual level of issuance – we’re well below the average levels seen in the past five years. But also, investor cash balances are at extremely high levels and need a home – quickly.

We’ve been through a torrid year in terms of potential market derailing events. The risks have been greater than usual. President Trump has probably been the chief culprit in that sense, with his aggressive trade tariff policy which threatens all-out economic warfare and hangs over the markets like the proverbial sword of Damocles.

Higher US rates and the set-to between the US and Turkey remain a slow (‘ish) burning fuse for emerging market corporates where refinancing costs are only going to rise as we reset Treasury yields higher into the US economic recovery amid a more Hawkish fed rate stance.

Specifically for Europe, we have Brexit to contend with but the situation in Italy is far from being resolved as the new government grapples with being in power and is now putting its crucial first budget together. It could go very wrong on that front from here.

With all that, investors have been fairly cautious to this point in 2018, building cash balances and hoping that supply would pick up by now, but also that some of the aforementioned tensions would ease. Neither of those have occurred.

The Street has been short, probably waiting for some kind of bloodbath – either forced sellers (in crisis), or sellers as a deluge of supply hits the screens. No such luck. So they’re likely scrambling to cover those shorts or will be.

At the same time, higher yields are making corporate bonds look attractive again and yield buyers (insurers/pension funds and the like) are back on the prowl.

In our view, September can be a huge month for issuance, but at just over €20bn of IG non-financial debt issued this month with a week of business to go, we’re going to be looking at around the €30bn mark before the month is out. It’s good – but is still not enough.

So we can expect a steady squeeze in credit spreads from now until year-end, with market participants wary about chasing the market hard in case Italy, EM or Trump sour events.


Non-financial corporates have their day

As if to demonstrate all the sentiments above, Thursday’s primary market clearly illustrated the current dynamics in primary. We had several IG non-financial borrowers in the market and the scramble to get bonds was immense again. Books were up to 6x oversubscribed and final pricing rammed up to 30bp tighter versus the initial guidance.

Either syndicates are misreading the markets, or everyone is just playing the game knowing cheap initial guidance is going to elicit enough orders for pricing to be tightened so aggressively. Whatever works!

France’s RTE took €1bn in a dual-tranche evenly split 12-year and 20-year maturities priced at midswaps+48bp and 68bp. The book closed above €8bn and was skewed towards the longer issue with pricing 22bp – 27bp inside the opening guidance! Renault followed with a €750m, 8-year offering priced at midswaps+125bp with that final pricing 20bp inside the opening mumble. The book was up at €2.5bn. Japan’s Nidec Corp issued €300m at midswaps+45bp and the €1.9bn book allowed for final pricing to be reduced by 20bp.

Reverse yankee issuance had International Flavours & Frangrances (IFF) issue €300m in a 3-year maturity at midswaps+50bp (-30bp versus IPT) and €800m in an 8-year transaction priced 20bp inside the initial talk at midswaps+105bp (-20bp).

So a €3.1bn day, took the total IG non-financial issuance to €22.6bn for the month so far. There was nothing high yield but Italmatch is due to price €410m on Friday. The total for the month in high yield issuance stands at €3.9bn (€52.1bn YTD) helped by the recent flow from Refintiv and Akzonobel Speciality.

In financials, Sparebank 1 took €300m in 3-year floater funding at Euribor+52bp, while in sterling we had HSBC issue an AT1 PNC8 structure raking in £1bn and costing the bank 5.875%.


US equities higher and higher

There’s little happening in a negative sense on the Korean peninsula. The North and South Korean leaders held a positive meeting, suggesting Kim Jong-Un wants a second summit with President Trump amid the potential for a rapid denuclearisation in the North. If this dynamic continues to play out in this direction, no doubt Trump is going to claim much credit here – rightly so.

The big story of the day though has tone around US equities, where the S&P ripped higher to set a new record high (+0.75% at the time of writing), pulling all markets higher with it. The DAX added almost 1%, the FTSE over 0.4% and the Dow rose 1% – also recording a new high in the session. The weaker dollar probably helped but it does seem like the path of least resistance is for higher US equities with investors in no mood to be derailed any of the lurking risks.

Rate markets had a more stable session, little moved in the day. Gilt yields in the 10-year were at 1.59% (-2bp), the US Treasury was yielding 3.07% (-1bp)and the Bund 0.48% (-1bp) all in the same maturity.

Credit markets received a leg-up from the positive vibes elsewhere. In the synthetic space, the new contract rolls took over and iTraxx Main Series 30 was at 67.9bp at the close with X-Over at 266bp.

In cash we edged tighter again with the IG iBoxx corporate bond index at B+129.8bp at the close (-0.5bp) – and 6bp tighter this month so far. After some weakness early on in the month, it’s been a steady grind better this past couple of weeks. The same can be said for the high yield market, with the index closing at B+379.2bp (-0.8bp).

Have a good day.


For the latest on corporate bonds from financial news sources, click here.

Suki Mann

A 30+ 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 CreditMarketDaily.com.