3rd March 2016

CoCo price recovery now linked to equities and macro

FTSE 100
6,147, -6
9,776, +60
S&P 500
1,986, +8
iTraxx Main
95.5bp, +0.5bp
iTraxx X-Over Index
391bp, +2bp
10 Yr Bund
0.21%, +6bp
iBoxx Corp IG
B+177.2bp, -2.5bp 
iBoxx Corp HY Index
B+610bp, -15bp
10 Yr US T-Bond
1.83%, +1bp

Euphoria turns to calm, no hangover… There has been no great follow-through after Tuesday’s 2%+ rally in stocks although there was a welcome continued solid recovery in cash credit spreads, and we had a retracement in safe-haven assets. Who isn’t or wasn’t tempted to think we have turned the corner? Human nature is such that some will have been hoping for a sustainable rally and willing the current better tone and recovery in risk asset pricing to herald the start of some kind of turnaround. We suggested in Wednesday’s comment that iTraxx levels at 95bp/390bp for Main/X-Over were good entry points for a short trade (buy protection), and we still believe that. The macro newsflow saw a continued play on energy, which was a drag on industrial prices in the eurozone in January, with output prices declining by 1.0% versus a 0.8% drop in December. After a bright start, the session soon fizzled out to be quite unremarkable. Stocks played out flattish for much of it but managed a mini surge at the death; credit – as measured through the synthetic iTraxx indices – did the same but coming off earlier tighter levels. Cash was in good shape, admittedly. There was no corporate issuance while secondary credit was on the up. We are also consoled by the performance of the Daimler deals – another set of transactions whose reception was very good (5-10bp tighter), even though they were tightened up considerably versus initial price talk. The uptick in supply of late has managed to inject a bit of liquidity into the corporate bond market, but we need to see it keep coming to maintain the edge this market has right now.

CoCo recovery dependent on external influences

March 3 2016 CoCo chart

Quick look at Contingent Convertibles… CoCo index yields and spreads have fallen by 160bp since the peak on February 11 (see chart above). The sector was battered as the clouds gathered over Deutsche Bank in late January/February, but the recovery is very welcome and much needed. The Markit iBoxx CoCo index yield now seems to be holding at around the 7.5-8% level (high of 9.68%) – it dropped 30bp in yesterday’s session. The recovery has been choppy nevertheless, reflecting the ups and downs observed in stock markets. That suggests – in the absence of bank-specific news as in the case of Deutsche previously – that the CoCo bond market’s price recovery will be dependent on how macro/equities/risk asset valuations play out. There is reduced real interest from investors to add AT1 paper, so small daily price moves (or otherwise) reflect traders marking CoCos higher or lower in cash price terms on the back of general intra-day risk sentiment and the ebb and flow of equity markets. That’s about the level of sophistication around the price action. Into that recent equity price recovery the Deutsche 6% CoCo has perked up, but it is now stuck at around €80 (cash price), albeit still a bounce of 10-points off the mid-February lows.

Credit ends on top of the pile… The session closed out with equities volatile and moving much better in Europe only at the finish. Credit was barely changed for most of it too after some opening optimism, but gained some traction later. That initially fed through into sentiment everywhere and the session was seemingly lost, most likely with everyone now looking to Friday’s non-farm report. It was a little early for that in our view, but with little else to offer us any direction, why not? In our view, corporates are losing the opportunity there being no competing supply gives them, as we had yet another blank day on the issuance front for the corporate sector. There was a back-up in government bond yields with the 10-year Bund up at 0.21% (+6bp), for example, with probably a bit of profit taking the driver for it. Peripheral yields rose more, by 8bp for Italy and Spain to 1.46% and 1.56%, respectively. An initial drop of 2% in oil prices after a higher than expected inventory build-up in the US, was soon reversed with the price per barrel ending a touch better at $37.07 for Brent and remarkably, close on being flat for the year. Finally, IG corporate spreads, as measured by the Market iBoxx corporate IG index ended 2.5bp lower at B+177.2bp – and a level last seen exactly a month ago! The better high beta performance followed through into corporate hybrids with some decent price action here too. The HY market was not left behind, the iBoxx index closing a super 15bp lower at B+610bp. For the indices, they didn’t manage to capture the late performance in eurozone stocks, and were left a touch wider in the session underperforming cash at 95.5bp for Main and 391bp for X-Over.

Have a good day, back in the morning.

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.