16th November 2016

What’s Rooster Cogburn got to do with it?

MARKET CLOSE:
FTSE 100
6,792, +40
DAX
10,735, +41
S&P 500
2,180, +-16
iTraxx Main
77.25bp, -1.75bp
iTraxx X-Over Index
340bp, -11bp
10 Yr Bund
0.30%, -1.5bp
iBoxx Corp IG
B+129.8bp, +0.5bp 
iBoxx Corp HY Index
B+434bp, unchanged
10 Yr US T-Bond
2.24%, -2.5bp

Fill your… “boots”

Time to benefit from market overreaction

Time to benefit from market overreaction

After the storm, the inevitable calm. The chance to take stock, a deep breath and ponder the next move. We’ve been well and truly routed in fixed income markets on Trump’s expansive economic policy expectations. The $64,000 question for bond investors is whether the self-off in corporate bonds and the liquidity improvement in the secondary market on the back of it (there will have been no shortage of sellers) is an opportunity to add some risk.

To answer that question we would have to believe that the sell off in rates is overdone – or done. But that we also have a good handle on how the US fiscal loosening will occur (timing and how much?).  The market – as is usual – has clearly over reacted to the news of that US election result- and making sense of all that is where the opportunity lies.

Our view is that the Eurozone’s government bond market has overreacted. There is obviously some pull on directionality when the US sells-off hard, but fundamentally we’re in a different zone. Economically, policy wise, QE and so on all justify lower yields here. The back-up in rates is unhelpful given the impact they have not he so-called funding transmission mechanism, and we think that the ECB will have little choice but to keep things going – as they are – past next March’s so-called “deadline”.

Any positives derived from expansionary US economic policy once Trump is in charge will take a while before they feed through into a better growth dynamic in Europe (if at all). With that view, it goes to make sense that if specific corporate issues and valuations meet targets, then any emerging liquidity (of those corporate bonds) arising from the current weakness ought to be lifted.

Primary offers corporate investors some distraction

mercedes-benz-tokyo

New issue: €250m from Mercedes-Benz Japan

The new issue sector sort of came to life as Mercedes-Benz Japan issued €250m, but the attention was squarely on US pharmaceutical group Mylan, which came with its 4-part €3bn transaction (2-yr, 4-yr, 8-yr and 12-year maturities). The deal was 3x oversubscribed and pricing was tightened by 10-20bp depending on the tranche.

That shows that there is still great demand for corporate bond risk despite the jitters we have had since rate markets started selling off. That is now €14bn for the month at the halfway stage with almost €7bn of it coming in two sessions this week.

Swedish specialty chemical group Perstorp (triple-C rated) came with a €485m deal (as well as a $685m offering) for the HY sector. There were/have been many announcements from the high yield market in particular, and we are potentially going to see a deluge of supply from it in the coming sessions. The primary market felt busy (lots of deals to look at and many roadshows occurring), but the other prints took in only American Express and Unibail-Rodamco for FIG with a €1bn 5-year deal for the former and €500m for the latter, while covered bonds and SSA issuance took in the rest.

Nothing doing in markets otherwise

The session played out fairly calmly all being told. Equities did very little in Europe for most of the session but rallied a little into the close (+0.5% higher on average). The US saw stocks mixed in a small range during the European session while government bond prices edged a touch higher while the corporate bond market was slightly better bid.

Italian sovereign 10-year bond yields had zoomed through 2% on a combination of the general bond sell-off and the upcoming constitutional referendum, where we believe market fears might have escalated of defeat for Renzi following Trump’s triumph. Whatever the reasons, yields on Italian debt dropped by 12bp in that 10-year maturity to 1.95%. Spanish Bonos have also been under pressure of late, in line with the theme of hitting riskier debt wherever it resides, but yields fell to 1.45% (-6.5bp) yesterday.

That picture was repeated pretty much across the board with the 10-year Bund yield below 0.30% briefly before back to that level (-1.5bp) but some 8bp off Monday’s intraday high. Similarly, Gilts were better bid leaving the 10-year to yield 1.37% (-3bp). And investors looking at their daily or YTD returns will be a little relieved at the duration market’s mini-recovery.

Investment grade credit was a touch weaker for choice, and as measured by the Markit iBoxx index the valuation came in at B+129.8bp (+0.5bp). It’s unusual we get this weakness when other markets are stable and consolidating and we suspect that we’ve likely seen the best of spreads for this year. B+125bp by year-end would be a result! Sterling credit likewise moved a touch wider too. As for high yield, that secondary market closed unchanged. With plenty of deals to look forward to, we suspect investors were busy elsewhere.

The synthetic indices regained some poise too as the cost of protection fell and Main closed out at 77.25bp (-1.75bp) with X-Over down at 340bp (-11bp).

Have a good day.

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.