25th February 2018

Holding one’s nerve

iTraxx Main

57.0bp, +3bp

iTraxx X-Over

277.7bp, +8bp

10 Yr Bund

0.65%, -5bp

iBoxx Corp IG

B+90bp, +1.5bp

iBoxx Corp HY

B+310bp, +6bp

10 Yr US T-Bond

2.87%, -5bp

FTSE 100 [wp_live_scraper id=”4″], [wp_live_scraper id=”5″] DAX [wp_live_scraper id=”12″], [wp_live_scraper id=”13″] S&P 500 [wp_live_scraper id=”10″], [wp_live_scraper id=”11″]

Worm not ready to turn yet…

It will not have escaped anyone’s attention that the tightening in credit spreads has hit a brick wall. Even when equities have a good session, spreads seem to tighten reluctantly – if at all. Weakness is moderate, however, when it occurs in IG and the contingent convertible bond sectors (our favourite picks) but more apparent in high yield.

The lack of activity in primary is actually serving to highlight how dull the secondary market really is. We need the confidence that deals bring, but also we need them as they give investors something to do! It’s been a very light month for corporate bond activity and while we know that mandates have been dished out, we need a busy and heavy March to get us back on track.

The inability for the market to push on in secondary could be highlighting or hiding something more sinister, though. And that is some real fear that we have come to the end of the road for credit. We don’t buy that, but some will plug into the huge volatility we have had in equities several weeks ago as a sign that the worm will turn – and when it does it will be nasty.

So they will be (thinking of?) taking some money off the table and view it as being not such a bad trade.  That’s because cash is less expensive now and becoming less so almost daily, in dollars anyway. One month dollar LIBOR is up at circa 1.6% compared to 2-yrs at 2.25% and 10-yrs at 2.90%, and if the market backs up another 40-50bps in rates, it will viewed as a good trade. Even if it doesn’t, the cost is not too great. In euros it is a little more difficult since cash is still negative, with 1mth Euribor at -0.37% and 2-yrs Germany -0.53% but 10-yrs 0.65%.

Our view is to stay put for now. The aforementioned potential trade is unnecessarily too defensive.

US markets in strong recovery

We’re not sure that there was a specific catalyst for it (news flow was light), but we had a very strong session for stocks in the US in Friday’s final session. The S&P gained 1.6%, the Dow 1.4% and the Nasdaq some 1.8% and while European stocks were barely in the black, the omens are good for a solid start to the week.

Even rate markets rallied across the board. The 10-year US Treasury yield dropped to 2.87% (-5bp), we had the equivalent Bund yield down at 0.65% (-5bp) and the 10-year Gilt closed to yield 1.51% (-5bp). There were big moves and predicted (on little obvious news) leaving us to believe that markets were previously just oversold. Mind, comments by Fed Governors Dudley and Rosengren suggesting that QE was quite likely in the future along with other measures might also have provided a fillip for US duration.

With just three sessions to go before we close out the month, some continued positive momentum could see US equities closer to record highs again. For instance, some heavy lifting of late has resulted in the S&P rally 215 off the February low and is now just 123 points away from the record high seen in late January (needs to rise 4.5%).

We still think that 3,000 (or more) for this index is a real possibility for this year. The Nasdaq’s recovery is even more impressive, having seen a record high of 7,505 in late January and a 2018 low of 6,630, it is now just 168-points (at 7,337) from that record high.

Credit struggles, though

The credit markets closed the week under some pressure. The iTraxx indices closed with Main at 57bp (+3bp) and X-Over at 277.7bp (+8bp) meaning that they widened 6bp and 16bp, respectively for the week. Just when the tone in equities has started to improve and macro has remained supportive.

The cash market was also weaker, with some bigger-than-usual moves in IG and HY. The Market iBoxx IG cash index widened by 1.5bp to B+90bp, which saw it 2.5bp wider in the week, while the HY index rose by 6bp to B+310bp – some 11bp wider in for the week – and returns for this index now back in negative territory for the year and month to date, wiping out the positive total returns for January.

Svenska Handelsbanken: €750m deal

And it was a similar story for the CoCo market, with spreads 7bp wider in Friday’s session, leaving the index at B+352bp which was 26bp wider in the week – but, it is still 10bp tighter YTD having been as much as 65bp tighter earlier in the month.

The only deal of note on Friday was the €750m 10NC5 Tier 2 offering from Svenska Handelsbanken which was priced at midswaps+80bp.

So, against our expectations, the corporate bond market has had a relatively poor month. There has been nothing to be concerned about from a fundamental perspective and technicals remain extremely supportive – after all, we’ve barely had any issuance to get excited about.

There has been no panic selling, and the ECB has been lifting away at the IG markets. The weakness in IG and CoCo markets is easily reversible and appears modest, but that high yield market has really failed to fire up at all this year.

As for this week, we must be looking at a positive start for equities following on from that strong US close, and the better sentiment ought to see credit in better shape too. We don’t expect much by way of issuance though as we start the week.

The data flow takes in US GDP for Q4 (expectations of 2.5%), inflation figures in the form of core PCE (personal consumption expenditure) and then a plethora of earnings reports taking in the retail sector as the season comes to an end. Finally, new Fed Chair Jay Powell us up before the House and the Senate for his semi-annual testimony… and then we have those Italian elections, at the weekend!

Have a good day.

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.