28th Oct 2015

Thinking outside the box

MARKET CLOSE:
FTSE 100
6,365, -52
DAX
10,692, -109
S&P 500
2,066, -5
iTraxx Main
72bp, +1.5bp
iTraxx X-Over Index
302bp, +6bp
10 Yr Bund
0.44%
iBoxx Corp IG
B+155.7bp, unch 
iBoxx Corp HY Index
B+494bp, +3bp
10 Yr US T-Bond
2.02%

Unconventional yes, but no corporate bonds please… It had been mooted earlier this year by an ECB board member that the ECB’s QE programme ought to take in the corporate bond market too. Recent market commentary has suggested that such is the dire state of the eurozone economy, with current monetary policy unable to achieve a sustainable pick-up in growth or inflation, that more unconventional methods of stimulating investment and demand need to be added to the QE armoury. The Bank of England panicked a few years ago when it undertook its corporate bond buying programme, lifting around £3bn of investment grade bonds. Why? It wasn’t as if investment-grade corporates had financing problems. They didn’t. The huge liquidity injection into the global markets (Fed, BoJ, BoE) saw government bond yields drop precipitously, and a flood of money found its way to the next best fixed income market of choice – the corporate bond market. We had near record levels of supply, spreads tightened, corporates funded at their lowest ever costs and then the Bank of England joined the party. Its participation was an annoyance – a new player in town with an unlimited balance sheet, and buying into a market that was already illiquid. The sterling corporate bond market didn’t need any further manipulation. The ECB will be making the same mistake if it gets involved. All they will achieve is a further reduction in secondary market liquidity, lopping off a chunk of the corporate sector’s funding costs (corporates will hoard their booty as they have been doing for the past 5 years), frustrating investors who have been scouring the market for value and bonds and further distorting the corporate bond market. Don’t do it, is our advice.

Primary market’s mini-flourish pre-Fed… Equities took a bit of a down leg again, the synthetics followed as ever, but the corporate cash market was holding fairly steady. Such has been the strength of the rally/demand for bonds these past few sessions, we don’t think day or two of moderate equity weakness is going to derail it. Government bond yields declined on no new news, and lower govie yields ought to support the corporate bond market. Italy sold 2-year paper with negative yields for the first time ever, and 2-year German yields fell to record lows at -0.35%. Maybe the poor durable goods orders in the US and a steep downward revision to August’s figure had a part to play in the bid for government bonds. After all, if the US is running out of steam, what chance for the eurozone? All roads lead to the likelihood of additional QE being announced by the ECB come December. The 10-year Bund yield fell to 0.44% (-6bp), Italian BTPs to 1.44% and Spanish Bonos to 1.58%. In primary, we had a plethora of deals across all the different fixed income asset classes. There were the usual covered bond deals, and we had a senior bank transaction, SSAs and a couple of non-financial IG deals. For the latter it was Eurogrid in 8-year funding – and also a small 15-year tranche, with P&G also tapping the same part of the curve. Eurogrid’s deal was unusual in that the borrower initially went out for 8-year funding, but demand was there for longer-dated paper and they decided to issue Eur740m and Eur140m in 8 and 15-year funding, respectively. We would think that the demand for longer funding is a function of investor expectation that there is value in the longer part of the curve with QE on its way. P&G clipped a decent Eur1.25bn at midswaps+52bp, which was some 18bp inside the initial price talk and took the monthly total IG supply to almost the Eur10bn mark.

Secondary cash market stable… It will be a quiet session today (Wednesday) into the FOMC, but we can expect stability in spread markets. While all the focus will be on the Fed, the rest of it hasn’t been great of late and that might help with their decision-making process. BASF missed on earnings and cut its full-year outlook. BP met lowered expectations but maintained its dividend to keep its share price propped up – and is restructuring its business for a $60/barrel oil price. UK third-quarter GDP came in lower than expected at 0.5%. Oil was down, European stocks were down 0.75-1% and the iTraxx indices moved higher. The iBoxx IG corporate bond index closed at B+155.7bp (unch) and the HY index was at B+494bp (+3bp). There was some weakness in high beta names, but the moves were quite small. The iTraxx Main contract was a touch weaker at 72bp (+1.5bp) and X-Over at 302bp (+6bp).

The Fed now takes centre stage, but that’s it for this week from me. I’m having a couple of days off. Here’s hoping the Fed is kind. Back on 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.