1st February 2017

Chapter 2: Needing the fog to clear

FTSE 100
7,099, -19
11,535, -147
S&P 500
2,278, -2
iTraxx Main
73.5bp, +1.5bp
iTraxx X-Over Index
301bp, +2bp
10 Yr Bund
0.44%, -2bp
iBoxx Corp IG
B+134.2bp, +0.5bp 
iBoxx Corp HY Index
B+380bp, +3bp
10 Yr US T-Bond
2.44%, -3bp

Time to reflect…

It could have been much better for some markets as we closed out January. Equities were flying until the US President’s spate of executive orders instilled geopolitical and potentially macro fears. This comes amid the data throughout the last couple of months being upbeat and few will argue that the Eurozone appears to be on a surer footing.

Growth is at worst stable and at best inching higher, inflation is beginning to rise albeit food and energy driven at the moment (core inflation stubbornly low), industrial production is picking up smartly and unemployment is at its lowest level since around the time the financial crisis took a hold – back in 2009.

Failing to deliver on profits: UPS

The US economy has been in good form too, and investors will be wondering whether it will be two or three rate hikes in 2017 – and that’s on the data alone. Admittedly, the day’s Midwestern factory report and consumer confidence data were weaker than expected. There is also a level of event-risk in the system now (so to say) and we might need to pull-back on those rate expectations. In addition, UPS warned on 2017 profits and the company is a bellwether for the macro US economic outlook.

Government bond markets will react to both the economic data and potential for event risk and that might just check the potential for higher yields. We will probably get a better picture on the impact and implications of this new era of US policy into the end of this month.

There is no systemic crisis (yet?). We don’t see risk asset valuations worsening to reflect that – certainly not in the corporate bond markets. They’re still functioning as we would expect – primary printing, secondary illiquid, investors very long cash and waiting for new deals and the ECB still lifting close on an average of €2bn a week in IG just to keep participants engaged, if not a little confused.

So, time to pause and think. Issuers had been busy pre-inauguration and we saw a fairly decent level of supply in an effort – perhaps to front run “President Trump” – but also to get ahead of the potential for an uptick in rates. Now? Caution is probably the best strategy, until the fog lifts.

It could be a while.

Team Trump continues to defy protocol…

Long-established protocols are being dispensed with by Team Trump, and it was the turn of Germany and the weakness of the euro currency in their sights in yesterday’s session. Donald Tusk was back at him in equally uncertain terms and we have the prospect of some serious ructions to follow between the US and the EU.

And it’s not looking great. Other politics took in a police raid on Francois Fillon’s office as they conduct a probe into the misuse of public funds. It seems that EU and French politics are going to get interesting.

From a market perspective, the euro responded and headed higher versus the dollar, left as high as $1.079 in the session (+0.9%). Job done by Trump et al.

Government bond markets were unmoved by the day’s events. They actually closed the session close to unchanged. German 10-year yields were left at 0.44% (-2bp), we had the equivalent Gilt at 1.43% (-2) amid some recovery in Italian debt prices (10-year BTP yielding 2.27%, -5bp), while Greek yields popped higher (7.65%, +25bp) as the IMF continued to sound alarm over the sovereign’s finances.

Equity markets closed weak across the board.

Primary peaked into the inauguration

Auchan: €600m deal

Some €19.5bn of IG non-financial debt was issued into the Trump inauguration and just €7.2bn after it with the slowdown clear, even though rates only ticked a touch higher. As suggested above, it does seem like much issuance was done before any potential for event risk emerged.

The total IG issuance for the month came in at €26.7bn following deals from Auchan (€600m) and ESB (€500m) in the final session of it. The other deal of the day came from commodity trading group Louis Dreyfus which issued a €400m deal in a 5-year maturity, yielding 4.125%.

Senior debt had a very good month with deals totalling €21n for the month with several new style senior deals designed to take account of TLAC considerations. The HY market failed to garner any traction. Just €2,360m of issuance from five borrowers and one of those was “effectively” seen as an IG issuer, namely Telecom Italia. The markets would have been extremely receptive in our opinion to more HY deals, while the lack of issuance might have been the reason why secondary spreads had an outperforming month.

Spreads and returns point to high yield

Equities haven’t necessarily shone. The FTSE returned -0.6% for the month having promised so much through it. The German DAX equity index has had a couple of bad sessions of late and gains which were looking like being 3% for the month were more like +0.5% as we closed out January. The US indices are in positive territory for the month, but even here it all looks so fragile now – and that comes after the Dow, S&P and Nasdaq had seen record levels only a week or so ago!

Investment grade spreads moved a touch wider for choice, the broad measure for cash risk – the Markit iBoxx index – was up at B+134.2bp and just 0.5bp tighter for the month as a whole. Returns in IG credit were at -0.6% for January.

Sterling credit also went through a slightly weaker session and spreads on the index were up at G+150.2bp (+1bp), while that still represented a tightening of 2bp for the month as a whole. Unfortunately, for bond portfolios, sterling corporate IG has lost 0.95% in the month.

The clear winner in corporate credit has been the HY market. As mentioned above, the lack of supply has helped – as has the shorter duration nature of the market. the index has tightened by a stunning 33bp in the month and returns for the year thus far sit at a heady 0.75% as we go into February.

For the record, the iTraxx indices closed with Main up at 73.5bp (+1.5bp) and X-Over at 301bp (+2bp) – their highest levels in 2017 so far.

Have a good day; Back tomorrow.

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.