8th November 2020

🗞️ Whoever said markets hated uncertainty!

iTraxx Main

52.5bp, -1.1bp

iTraxx X-Over

313.5bp, -6.8bp

🇩🇪 10 Yr Bund

-0.61%, +2bp

iBoxx Corp IG

B+119.3bp, -2bp

iBoxx Corp HY

B+445bp, -5bp

🇺🇸 10 Yr US T-Bond

0.82%, +4bp

🇬🇧 FTSE 100

5,910, +3.8

🇩🇪 DAX

12,480, -88

🇺🇸 S&P 500

3,509, -1

Hamstrung administration boosts markets…

A day or two either side of the US election, the political uncertainty had resulted in a huge risk asset rally. Few would have thought it, but a potentially contested election result and the lack of a clean sweep for the Democrats had offered investors a bullish narrative.

There was obviously bit of a relief trade in there as well. Markets are now faced with some sort of an administration (lame-duck) likely limited in what it can achieve but, with it, a whole host of (policy) transformational risks have suddenly disappeared. When needs must, investors can twist the narrative for the cause.

So hopefully it’s more of the same, and we suppose a case of that will do nicely. It means the likely gains in tech and healthcare will drive US equities to new peaks and drag all risk asset pricing higher in their slipstreams. The old industrial group of companies comprising the Dow index will see that this index lags. But the S&P is once again looking at a fresh record high (just a handful of percentage points to go), and just maybe that 3,700  year-end target is back in view.

Spreads will go tighter. We have already seen a mightily impressive squeeze as equities have rallied. We would expect also that the primary market will reopen for borrowers not impacted by – or free of – earnings blackout periods. Of course, much will depend on how the legal fights play out in the US, but more and more it’s a Biden administration; The Democrats have the House and the Republicans most likely the Senate. That’s an effective stalemate.

Trump’s shenanigans – throwing his toys out of the pram, will (eventually) be seen as noise.

As for the rest, it’s not rocket science

The market has gone through so much this year. Let alone the US election, it’s still grappling with the ramifications of the coronavirus pandemic. There have been numerous other potential banana skins over the past several years, but here we are on the brink of the S&P hitting a new record high.

Take Italian BTP yields to 5-years which are now in negative territory. The 10-year BTP is yielding a record low 0.60% or Bunds+122bp. It’s cheap! Fiscal expansion might be going gangbusters and there is lots more of it to come, but central banks are buying up much of the additional debt being issued (financing deficits) and the liquidity being pumped into the system is looking for a home.

So we have bubbles – everywhere. Government bonds, equities, properties and credit and so on. Investors need a return, retail need income and want something greater than zero. It will burst, one day. But that day of reckoning is possibly a long way off. Japan has lived with it for coming up to 30 years.

Don’t fight it. And hence that narrative being pushed by investors that a lame-duck Biden administration is viewed as a godsend! Nothing gets done save for a bit around the edges. But big policy is dead in the water.

That 3,700 target is back in view as suggested above. The S&P didn’t do much in last week’s final session, but that was to be expected after the huge rally in the days before it. It closed flat at 3,509 and is now just over 2% away from a new record. Likewise, the FTSE closed flat while the Dax was 0.7% lower.

A moderate sell-off in Gilts saw the 10-year yield rise to 0.28% (+5bp), the Treasury in the same maturity to 0.82% (+4bp) and the Bund yield to -0.61% (+2bp).

In credit, spreads are squeezing and the lack of a material sell-off in the underlying is boosting total returns. The iBoxx IG index closed at its tightest level since late February, when the crisis took off, now at B+119.3bp (-2bp on Friday) and 8bp tighter just last week. The high yield market which, as a reminder is hugely dependent on a decent level of economic growth, is also feeding off the positive sentiment. The iBoxx HY index is now at B+445bp.

As for returns, the HY market is now only 1.4% lower for the year to date, having clawed back 1.5% last week. It’s a similar spread picture in the sterling corporate bond market, but total returns are way ahead of the euro market, now up at 5.2% year to date. That’s even better when put against the FTSE, languishing by over 20% lower this year.

If the equity markets can remain upbeat into year-end, there is every chance we can continue to squeeze tighter, with iBoxx spreads in IG as measured by the iBoxx index closer B+110bp and just maybe that HY index looking to sneak up towards B+400bp.

This week, the headlines will continue to be dominated by the US election. Biden, of course, has it in the bag, but Trump is leaving the White House kicking and screaming (almost literally). As we suggested, noise. So we can turn our attention to macro. It’s almost passed us by that the US added back a better than expected 638,000 jobs in October, and that the unemployment rate fell to 6.9% (from 7.7% in September).

Over the weekend, China reported that exports 11.4% in October (YoY) and imports rose by 4.7%. For this week elsewhere it’s a busy one. We have Eurozone and UK GDP updates for Q3 along with inflation data (US, UK, China). We also get an update on the UK and Eurozone’s industrial output. And of course, the third-quarter earnings season continues.

Have a good day.

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.