10th March 2017

Eurozone’s financial crisis all but over

FTSE 100
7,315, -20
11,978, +11
S&P 500
2,365, +2
iTraxx Main
71.4bp, -0.6bp
iTraxx X-Over Index
283.7bp, -1.3bp
10 Yr Bund
0.42%, +5bp
iBoxx Corp IG
B+132.6bp, -0.2bp 
iBoxx Corp HY Index
B+369bp, +5bp
10 Yr US T-Bond
2.60%, +5bp

Easy does it, but policy is changing

That wasn’t quite the non-event of a session that corporate bond market investors might have anticipated, going into an ECB meeting. Four high yield issuers and two investment grade rated borrowers took the opportunity to get deals away while it was quiet enough for investors to give the debt offerings a fair degree of focus.

The UK market was still preoccupied with Wednesday’s budget while the rest were left in a holding pattern waiting for the ECB’s press conference. In the event, they left it all is with the main rate at 0.00%, the deposit facility at -0.40% with QE ongoing until at least the end of 2017, and asset purchases reduced from €80bn to €60bn from April this year.

The detail was about the ECB becoming a little more hawkish, with the only element of caution being around there being no convincing sign of an upward swing in core inflation. Growth forecasts were revised 10bp higher to 1.7% this year and 1.8% for 2018, and inflation in 2017 from 1.3% to 1.7% before stalling at 1.6-1.7% thereafter.

The sting for the markets was that Draghi struck a less dovish tone than what we might have been used to with no further rate cuts expected or a fresh TLTRO (cheap bank loans).

With risks to the downside looking much diminished now (but the ECB still as vigilant as ever, they stressed to add) the government bond markets took it on the chin. The German one did anyway, with bund yields shooting higher, the 10-year eventually settling at 0.42% (+5bp) as the safe-haven bid was seen as being overdone. There’s an argument now that we ought to see a better correlation between US Treasury yields and Bund yields. In simple terms, they’re both going higher.

Inflation might be rising (core not so), but with oil stockpiles rising and the price per barrel dropping (WTI back at around/below $49 per barrel) policy makers will be a little circumspect about the rate outlook – in the medium term – if these levels suggest the price per barrel is heading (a little?) lower.

Anyway, that’s for another day. For now, the Eurozone’s economic outlook is a little brighter as interpreted by the area’s central bank. Politics fared top of the list of event-risks that might derail the current more upbeat mood around the zone’s economy (Dutch and French elections and of course, as ever, Brexit).

Consequences for corporate bond investors

For corporate bond investors, a sustained increase in the pick-up in growth is what we might fear. Add in the potential for inflation to also rise and then we have our performance-killing scenario. Higher rate markets offsetting any positives from tightening spreads on improving credit fundamentals. In reality, the potential for both of those events (significantly higher growth and inflation) to emerge in a short space of time is very low. So, we can probably be a little complacent as to the prospect of funds flows away from the corporate bond asset class. We could, however, expect inflows to slow – and potentially quite materially – with there being a better alternative elsewhere, namely equities.

Total return funds will be feeling the heat a little now as the rise in underlying government bond yields will be eating into the wafer-thin returns that we might have been expecting for 2017. Eurozone government bond portfolios were already in the red by around 1.5% at the end of February for 2017, and will be scarred some more on the back of the move in govvies on this ECB meeting just gone.

Investment grade credit total returns were barely in the black for the same period (high yield faring much better), but may well end the first quarter back in the red. In fact, we are inclined to think that they will.

Primary surprisingly flourishes

Johnson Controls: €1bn IG deal

Nemak, Cembrit Group, Matterhorn Telecom and Alliance Data Systems kept the largely rate-insensitive HY market investors occupied while we had Johnson Controls and A2A stump up for the IG universe. That meant for a busier session than is usual for an “ECB day” and we would think highlights the size of the pipeline rammed with corporates potentially looking to get deals away.

We’d argue that there is no desperation in their ranks. If that was the case, then we would have had a much busier week gone by (although it was a good one).

Anyway, the IG deals saw A2A in for €300m which was priced at the initial guidance of midswaps+85bp – the first time we’ve seen that for a while – for a 7-year maturity. Johnson Controls got the market back to a more sensible footing with a €1bn lift some 15bp inside the opening guidance for 6.5-year money. Those deals take the deal total for IG non-financial issuance for the month so far to €9.25bn.

In the high yield market, Nemak took €500m in a 7NC4 transaction with an offer yield some 50bp lower than the opening shot, while the Cembrit Group raised just €115m in a secured floater deal. Alliance Data Systems Corp issued €400m in a 5NC2 deal. Matterhorn issued a €525m senior secured floater and did a €117m tap of its existing 4.875% 23s, taking the daily issuance for this sector of the market to €1,747m and the month-to-date total to €3,307m as we head for a possible €5bn+ for March.

Credit holds steady

The Bank of England announced that its corporate bond QE had garnered some £7.98bn of IG non-financial debt in less than 6 months of an 18 month programme intended to lift a maximum of £10bn. The weekly haul has slowed from around £450-500m to around the £300m area, reflecting the difficulty now in finding enough bonds at “the right price”.

Still, the smaller sterling market will have received plenty of support from the bank’s manipulative interest and they have succeeded in helping the primary market deliver more borrowers to satiate the sterling investor community’s investment interests. For the year-to-date, sterling spreads as measured by the iBoxx index are 3bp tighter (G+149bp) and returns are positive at 1.2%, helped by a gilt market not seeing yields rise in some sort of tandem with those elsewhere.

In the euro-denominated markets, IG credit valuations were left just a touch better with the iBoxx index barely moved at B+132.6bp (-0.2bp) although the back up in yields saw to it that returns YTD dropped back into the red. The HY market endured a weak session, which left the iBoxx index almost 5bp wider at B+369bp and while returns declined, they up almost 1.5% for the year so far.

Finally on index, Main closed at 71.4bp (-0.6bp) and X-Over at 283.7bp (-1.3bp). Ho hum.

Have a good day and weekend. Back on Monday.

For the latest on corporate bonds from financial news sources, click here.

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.