20th January 2016

Don’t look a gift horse in the mouth

FTSE 100
5,877, +97
9,664, +142
S&P 500
1,881, +1
iTraxx Main
96bp, -0.5bp
iTraxx X-Over Index
377bp, -7bp
10 Yr Bund
iBoxx Corp IG
B+176.5bp, -0.3bp 
iBoxx Corp HY Index
B+602bp, +3.5bp
10 Yr US T-Bond

More oil will only help at the margin… Every extra barrel of oil from this point on – wherever it comes from – ought to be no bad thing. The global economy has been drugged up for 7 crisis-fuelled years. We need to readjust after years of excess. Lower oil prices are either adding to a glut created amid far too much supply, or the glut we have is on the back of super weak demand as the global economy readjusts, and one which is righting the wrongs of the excesses of the 2008-post manipulative political and central bank policies to keep things ticking over. Low inflation, or rather a disinflationary environment (even deflationary in many situations) but sustained low rates and freed-up cash (at the consumer level), are no bad thing as we strive to pay down debt – or, more likely, service fairly onerous obligations (more so if rates rise). The point is, if we can get our house in order while we are blessed with low debt service and refinancing costs, then the policy of “shock and awe” (QE, low rates) will have done its job. Unfortunately, that’s all wishful thinking. The ways of the world, human nature and politics are to revel in excess and largesse, meaning we will miss our moment. So the going has been good and fed into hitherto artificially high equity, government and corporate bond prices. The time when that trio didn’t all move in the same direction (that is, higher equities, lower govie prices and more mixed corporate bond prices) is a distant memory for seasoned market players. That classical relationship has broken down. Now, we might be in throes of seeing it eventually re-established in a painful, likely multi-year adjustment process. That means volatility – some large downs, less ups – but an extended period of lower and possibly negative returns.

China slows, but no drama yet… GDP, fixed asset investment, industrial output and retail sales all declined and save for the GDP figure missed consensus expectations, but the market chose to ignore that or take it as a small positive (expecting stimulus to get China back on track). There was no catastrophe in the numbers, that is. We expected weak data and were ready for it. And likely also fatigued by the constant fall in markets! So stocks in Asia bounced and provided a fillip for us in Europe. European credit saw what could best be described as a tentative tightening, understandable as the prevailing view is that any rally will be seen as an opportunity to reduce risk as the bid side improves. The primary market for corporate bonds was closed. Few currently believe in any sort of sustainable turnaround (and expect any rally to fade). And why should they? There is much uncertainty, while no less than the IMF downgraded their growth forecast for 2016 to 3.4% from 3.6%, adding that the risks to the new forecast are to the downside (on China, EM and US rates).

Modest relief only for stressed markets… In the European session nerves were calmed, helped by Chinese stocks rising by over 3%, and Brent crude also following suit, up at close on $30 per barrel at one stage. European stocks were over 2% higher. Corporate bond spreads were underpinned by the improved tone, and we managed to edge better through yesterday’s morning and early afternoon session. And even the synthetic indices pulled away from that hitherto ominous rise to 100bp/400bp for Main and X-Over, respectively. But US crude prices couldn’t hang on and slipped by almost 3.5% (WTI at $28.43 and Brent was at $28.91) which weighed on US stocks and they ended close to flat having been up over 1% in earlier trading. While we closed off the earlier highs in Europe but still a respectable 1.5-2% higher in stocks, the nervous US close means a more difficult session again today. What did we say about suspicious markets and fading any rally? Investment grade spreads closed the session unchanged at B+176.5bp as measured by the Markit iBoxx corporate bond index, but the HY market was a little weaker with the index up at B+602bp (+3.5bp), and the yield perilously close to 6% (at 5.96%). In Q1 2015, the HY index spread was below B+350bp! The iTraxx indices ended a smidge lower, at 96bp and 377bp, respectively.

After the close, IBM reported Q4 sales and profits declined YoY and its stock was off 2.2% in after market trading. Unless the overnight news flow from Asia is particularly upbeat, we will be giving back some or all of yesterday’s gains. Be careful out there.

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.