27th February 2018

ECB’s new issues mission… failed!

iTraxx Main

52.5bp, -0.7bp

iTraxx X-Over

263.5bp, -0.5bp

10 Yr Bund

0.68%, +3bp

iBoxx Corp IG

B+89.2bp, -0.7bp

iBoxx Corp HY

B+304.5bp, -4bp

10 Yr US T-Bond

2.91%, +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″]

Limited influence on primary markets…

The ECB expanded its QE programme to take in corporate debt back in June 2016 and has lifted almost 17% of the eligible market since, amounting to a little over €140bn of corporate debt securities. The reason given, or assumed by the markets, was to improve (or fix) the transmission mechanism of the funding process by allowing for the disintermediation of funding for corporates away from the bank loan markets to the capital markets. The problem was, and is, that the market wasn’t broken and didn’t need fixing on this issue. Corporates have had absolutely no problem in borrowing in the capital markets be they IG or HY rated – since even 2009.

The QE did the heavy lifting of reducing market rates to negative levels and plenty of the excess system liquidity found its way to the corporate bond market. Investors have been comforted by the low default rate which has held below 3% since 2010, the low transmission risk in corporate bond ratings and therefore content in holding corporate bonds which they have viewed as a safe-haven like product offering a decent pick-up versus negative yielding government bonds. The euro-denominated corporate bond market has grown from €700bn to over €2trn now.

With those supportive technical factors intact, what about supply? Here, we believe that the QE corporate bond mission has failed – and actually been a nuisance for corporate bond market investors. First issuance. The average level of annual IG non-financial supply since 2014 has been €260bn, and NO noticeable increase since the ECB’s corporate bond QE effort kicked in.

In fact, Q1 issuance since 2014 has averaged €86bn with €106bn issued in Q1 2015 – long before corporate bond QE was even mooted! This year, the opening two months of the year have seen less than €30bn of supply. We’re going to need €55bn in March to get back to the average of the Q1 2014-2017 period.

That, quite frankly, is not going to happen. We would not, however, be surprised in the slightest if €35-40bn of IG non-financial debt graced the markets in March. And that would include even the worst possible result from the weekend’s Italian elections. In a sense, the markets are numbed to peripheral event-risk – we’ve seen it so many times. And any systemic impact would be extremely unlikely. Reasonably, the only derailment of a heavy supply-train of bonds can come from renewed severe equity market volatility. The pipeline isn’t super massive, but €30bn+ is our call for issuance for March in this category.

Some would argue that the high yield market has been the chief beneficiary of the ECB’s QE. Here, we have seen evidence of some real funding in the capital markets and away from the traditional banking sector funding. Maybe, it has, but it has been very short-lived. We had a record level of supply last year at €75bn, but most forecasts see the issuance level this year fallback towards the medium term average of €55bn. Investors are pushing back, because secondary has gotten too rich.

The ECB has only succeeded in reducing the liquidity of the secondary market. Already, the banking sector was a reluctant and reduced warehouser of bonds for secondary market activity due to the post-crisis, regulation induced cost of capital needed support the business. With the ECB lifting (now) €5-6bn of debt, investors are left fighting it out for scraps in the most part, in the primary market – and left the market overall as effectively a buy-and-hold one. The ECB’s participation has been most unwelcome.

And then spreads. We are currently at close to record tights in most markets thanks to the manipulative heavy hand of the ECB. Break-evens are at very strained levels, such that there is little margin for error. We really could have done with spreads across all markets being higher. Describing corporate bonds as a fixed income product looks a little stretched!

Some food for thought: The €141bn the ECB has bought means €141bn less corporate debt in investor hands, so there has been an effective outflow of funds. Where has that money gone?  Not all into HY and it is not chasing IG secondary for sure – so it’s equities, real estate, crypto and so on…

Primary stirs some more as we close out the month

Norwegian state-owned enterprise Statnett issued €500m

At least we had a little more to keep us occupied in the primary markets during Tuesday’s session. In the IG non-financial corporate sector, we had Metro AG take 5-year funding for €500m at midswaps+72bp (-8bp versus IPT, books at just around €700m) followed by Red Electric issuing €600m in a 9-year maturity at midswaps+32bp (13bp inside IPT off a €1.3bn book). Next up was Securitas with a €300m print at midswaps+60bp (-2bp versus IPT, books over €1.4bn) and Statnett issued €500m at midswaps+20bp in a 7-year deal.

Excluding the Statnett deal because it is a state-owned entity, we had only €1.4bn of IG corporate non-financial deals in the session, taking the monthly total to just €10.865bn.

The other deals of note came from RBS, issuing from its HoldCo for €1.5bn in an 8NC7 fixed to floating format at midswaps+100bp. RBS (not HoldCo) also issued €1.75bn in a 2-year floater and €1.5bn in a 4-year fixed format. BBVA was also in, for €1.5bn in a 5-year floating rate senior non-preferred structure. These deals take the total supply in senior financials to €10.75bn for the month, around half of January’s total. All fairly unremarkable.

Other deals of note had the Canadian Pension Plan Investment Fund raise €1bn in a 15-year deal, and real estate investment group WP Carey which took €500m in a 9-year deal at midswaps+120bp (-20bp versus IPT).

Mixed data, markets reflect

The data was mixed from the US, and had little impact either way on the markets. Durable goods orders drooped by 3.7% in January versus expectations of a 2% fall, although most were looking at the ‘more solid’ long term trend and so there was little impact on the market. Macy’s department store reported better than expected sales growth with an upbeat assessment on the outlook as the US consumer confidence index hit its highest level since the turn of the millennium at 130.8 for February.

While the markets initially struggled to find any meaningful direction, they didn’t when the new Federal Reserve chairman Jay Powell gave an upbeat assessment of the economy in his first Congressional testimony – and rate rise fears resurfaced (we know at least 3 are supposed to be coming this year).

So, bonds sold off a little more the news, leaving yields to rise a fair bit. The US 10-year Treasury yield rose to 2.91% (+5bp) and the same maturity Bund yield was up at 0.68% (+3bp) while the Gilt yield rose to 1.56% (+5bp). Equities played out flattish throughout the early part of the session, but then moved lower with US stocks up to 0.6% lower (at the time of writing).

As for credit, the iTraxx indices were slightly better offered with Main lower at 52.5bp (-0.7bp) at the close, and X-Over o.5bp lower at 263.5bp.

In the cash market, we had another session where the market didn’t do too much, but did tighten for choice, and the iBoxx index was left at B+89.2bp (-0.7bp). That’s all noise and the secondary market is not exciting. The better tone left most higher yielding sectors better bid. And so, shock! horror! – The HY cash index was left at B+304.5bp (-4bp).

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.