5th February 2019

Squeeze me tight

iTraxx Main

69.5bp, -2.2bp

iTraxx X-Over

304.5bp, -8bp

🇩🇪 10 Yr Bund

0.17%, -1bp

iBoxx Corp IG

B+155.2bp, -2.7bp

iBoxx Corp HY

B+481.5bp, -6bp

🇺🇸 10 Yr US T-Bond

2.70%, -2bp

🇬🇧 FTSE 100 [wp_live_scraper id=”17″], [wp_live_scraper id=”24″] 🇩🇪 DAX [wp_live_scraper id=”19″], [wp_live_scraper id=”25″] 🇺🇸 S&P 500 [wp_live_scraper id=”21″], [wp_live_scraper id=”26″]

Looking for signs of life in corporate primary…

The opening sessions of the week have seen little corporate bond activity amid scant signs that we might experience a material pick-up as the week progresses. It would be nice if we are proved wrong. It just seems like we are going to get bogged down with plenty of excuses to stay sidelined as the European earnings pick up, the US is in the thick of its own earnings period and we have a few situations developing on the Eurozone macro front. The Fed’s sudden and more dovish stance might have quelled fears of an immediate meltdown, but they’re just putting off the day of reckoning.

It won’t save Italy from further economic weakness, a deterioration in its debt metrics, reduced levels of investment and a depressed consumer. It’s been a dire few days on the macro front for the beleaguered sovereign with confirmation of an ongoing contraction across both the manufacturing and service sectors. Nor will that Fed Dovishness help elsewhere longer-term, the Brexit debate reaches another crescendo next Tuesday, following a week of strategising within the UK government and between the UK and EU.

So the key takeaway, for now, has to be that we are going to trudge through the rest of this quarter and see where we end up. January was good for almost all sectors of the market with returns sitting nicely in positive territory. But there is a shallowness and fickleness to the investment process derived from a fear of missing out, a need to get some risk on board and hope that any weakness doesn’t erode all of any previous performance upside. In January, investors ‘opted in’.

Certainly, there is an apprehension in the market which is all too wary of the downside risks. The 10-year Bund yield is at 0.17% for a reason – for the very reason that downside risks lurk. It has held below 0.20% for most of these opening weeks of the year and hasn’t really threatened any reversal, highlighting continued macro and geopolitical fears, as well as the expectation that the ECB will stay in dovish form with a rate hike (in our view) not happening this year.

Alas, that feeds into supporting the credit market. Returns we seek and the corporate bond sector offers them in the fixed income sector. Avoiding single name even risk seems to be the biggest issue for investors, as the market otherwise moves one way or t’other across both the high and low beta sectors. There’s certainly a bid for paper although that is almost entirely through the primary market with deals massively oversubscribed.

Secondary markets are just too illiquid and so all we tend to see when (equity) markets move slightly higher – or are stuck in tight ranges amid little meaningful news flow, is a squeeze in spreads. That squeeze has helped credit in IG (iBoxx index) tighten 17bp this year, generated a good early bid for yield clippers in the CoCo market which was oversold previously, and we think has kept the plain vanilla high yield market better bid (-36bp of iBoxx cash index tightening).

There’s no ECB QE to help us out. And all the above (in rates and credit) are occurring without the manipulative investment arm of the once biggest marginal investor.

Working our way through

On the macro front, Italy’s service sector moved back into contraction in January as the sector’s PMI (Markit survey) came in at 49.7, the UK’s service sector PMI showed a 50.1 reading suggesting growth has stalled (51.2 in December) – and was the lowest reading since mid 2016. Only the German services PMI held up, coming at just a shade below consensus expectation, at 53.0. And it was that which gave a good boost to equities.

The Dax pushed 1.7% higher and other indices in Europe followed suit with similar gains, the FTSE around 2% better though and outperforming on sterling weakness. The US was also in the black (as at the time of writing) following a previously good opening session to the week.

Having spent the early part of the session better offered, rates went better bid, and we witnessed a decent drop in yields. For the 10-year benchmark Treasury, yields dropped to 2.70% (-2bp), the Bund yield moved to 0.17% (-1bp) while Gilts were better bid as May took her ‘backstop’ tour to Northern Ireland, the 10-year left to yield 1.22% (-6bp).

In credit, we had deals, but they were mostly focused on the SSA sector with Finland lifting €3bn in a long 10-year, Madrid €1.25bn also in along 10-year and the EIB was also present. The non-financial corporate sector opened its account for the month though Spain’s Iberdrola which issued a PNC6 green hybrid at a yield of 3.75% for €800m. The book was a massive 6.25% oversubscribed and final pricing saw that yield 50bp lower than the initial guidance.

United Utilities issued £250m in a 12-year at G+128bp and Deutsche Bahn was also taking pound funding, with £300m in a 7-year at G+85bp.

For senior financials, the troubled Deutsche Bank issued 2-year, 3-year and 7-year maturity debt for €1.5bn, €750m and €750m at midswaps+180bp, midswaps+200bp and midswaps+230bp, respectively. They followed up with a sterling tranche, for £500m at G+305bp in a 5-year offering.

The iTraxx indices dropped some more, and to their lowest levels for the current contract, with Main at 69.5bp (-2.2bp) and X-Over 8bp lower at 304.5bp.

The cash market had that Iberdrola hybrid and Deutsche Bank deals to keep itself ‘busy’, but they were not enough. We got the inevitable squeeze as sentiment remains upbeat and cash needs to get to work, the enquiry being for better buying cares. IG has been the main beneficiary. We closed with the iBoxx index at B+155bp (-2.7bp) – and a level seen last (mid-)November, just as the market was in its end of year sell-off mode. The AT1 market was slightly better bid too, having seen bits of weakness in the previous couple of sessions (against the grain).

In high yield, we have had just four issues in primary in these opening weeks of the year (TIM, EDP, Smurfit Kappa and Autodis) for just €2.8bn and two of those issues would have been hoovered by the IG investor base. It has helped support the high yield market which came under some significant pressure last year, but we’re seeing some support for it now even if macro is slowing. So just as in the investment grade market, we have bit of a squeeze on, leaving the iBoxx index to tighten by 42bp this year to B+481bp (-6bp on Tuesday). The index has returned 2.3% already.

Have a good day.

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.