16th January 2017

We need our fill

FTSE 100
7,339, +46
11,629, +108
S&P 500
2,275, +4
iTraxx Main
69bp, -2bp
iTraxx X-Over Index
287bp, -7bp
10 Yr Bund
0.34%, +2bp
iBoxx Corp IG
B+135.3bp, -0.25bp 
iBoxx Corp HY Index
B+390bp, -2bp
10 Yr US T-Bond
2.39%, +4bp

We’re already asking ourselves, “What next?”.
It’s been an interesting start to the year in the corporate bond markets, with more issuance than we ought reasonably to have expected. However, it has been taken down with some gusto.

That’s not to judge the success of any take-up by the subsequent performance – of which there has generally been very little – but to consider how books subscribed by 3-5x have been a consistent feature. The secondary market overall has done very little these opening weeks of the year. Yet many still believe – or pine for the days when trading and relative value was the most normal daily trading dynamic – that those days will return. They won’t.

Capital – distributed across the risk business – is king. There’s little of it to spare for secondary trading desks. As a result, it has forced asset managers to become buy-and-hold players and currently they feel comfortable in being so, as the inflows pour in to corporate bond funds and all eyes are firmly focused on the primary business.

Friday’s session delivered the first blank of the year so far for IG non-financial issuance, but that was no bad thing after some €14.8bn in the opening two weeks from 16 individual borrowers. The deals have had little trouble getting away and 15-25bp go tightening versus initial guidance has become commonplace.

The initial guidance is barely anywhere near being a decent enough indicator for pricing purposes – or the syndicates are just misjudging the market. It could be that this is the new game we’re all happily playing, the net result being fees in the bag for the banks, the feeling of good pricing for raising debt for the borrower – with the investor only left with a warm fuzzy feeling for having got a few bonds on his books.

The winner(s) are easy to spot – until it turns.

No performance upside, but…

From a performance perspective, investors must be content with the asset class – but can they still be playing it as a defensive investment choice? After all, inflows continue at a decent pace and faced with a risk asset that will barely return 2% this year.

Investment grade sterling and euro-denominated corporate bonds are sitting on negative returns this year so far (it is early days, of course) while spreads have barely moved, but the movement in rates is working against credit at the moment. Only the front-end duration-dependent high yield market is serving up positive returns although spreads in this market are also showing some good performance.

Surely, if growth is beginning to exhibit signs of picking-up in sustainable fashion, then equities are a better bet versus any fixed income asset?

Eurozone data has been very perky of late, the UK has brushed aside any potential Brexit woes (they never emerged), while the US promises much as Trump seeks to bring ‘America Inc.’ back home. Judging by the inflows and money continuing to reside with the asset class, there are enough nervous investors content to maintain their corporate bond asset allocations.

It’s still all about directionality

The borrowers have been broad in their geographic spread (country of origin) although autos and “utilities” have dominated the business profile of them. And they have all received the attention of investors fairly equally – be they cyclical or non-cyclical industries, from the periphery or not, or high beta and low beta.

The deals have been longer-dated in maturity than average too. Who cares? The demand for new deals remains solid despite the lack of performance in secondary on the break as suggested above, with the still sheer weight of sidelined cash looking for a home (as is usual so early in any year) seemingly making this a borrowers market. It also suggests that investors are content to take on more risk than they might otherwise have anticipated before this year began.

Whatever the reasons, the modus operandi of the investment process continues being one of a directional trade – an expectation that spreads will tighten – and/or that the underlying yield isn’t going to explode higher anytime soon.

Not too many would have expected to have been sucked into the ‘directional” trade this year – knowingly, anyway. In a sense, such is the demand for primary corporate bonds, that picking and choosing is not really the way to play it, for fear of not getting your fill on specifically targeted deals in a ‘beggars can’t be choosers’-like dynamic. Borrowers know it.

So we take what we can, when we can.

The secondary market is stalling

We’re not blaming it all on the primary markets but the secondary market is fast becoming forgotten about.

The market ended the week slightly better bid, leaving the Markit iBoxx IG corporate bond index at B+135.3bp – which was a basis point wider in the week. Even the confidence from higher equities – where some bourses hit record highs on a daily basis (like the FTSE) – are failing to elicit any improved confidence (from trading desks) and activity (from investors) in secondary markets.

Payday loans lender Amigo Loans issued £275m

High yield spreads only managed a small tightening, too, and we could have expected more here given their high beta nature and hopes that an improved global growth picture benefits this asset class more than the IG one. No such luck!

Here, the iBoxx index was at B+390bp (-2bp on Friday) which was almost 3bp wider in the week. At least returns are in the black with the front-end of the rate market well-anchored and spreads on the index 23bp tighter since the beginning of January. Again, there was no supply in HY in last week’s final session, but the week did see this year’s only deals so far, totalling just under €2bn from three borrowers.

Sterling corporate bond markets closed unchanged, the iBoxx index left at G+148bp, a basis point weaker for the week with returns under fire (-0.6% so far this year) on the back-up in rates. Close Brothers sold £175m in Tier 2 notes while Amigo Loans issued £275m in a 7NC3 high yield rated senior secured structure. Finally, the synthetic indices moved with the risk-on sentiment with iTraxx Main lower at 69bp (-2bp) and X-Over at 287bp (-7bp).

Coming up this week…

The WEF annual meeting runs from 17-20 January

We can expect a quiet start to the week today, given that the US market is closed for Martin Luther King Day. However, there could still be a deal or two as we no longer rely on needing the US market to be open.

There is much thereafter on the news front.  We have the World Economic Forum in Davos from Tuesday, plus a slew of US fourth quarter earnings (Goldman, Citigroup, and IBM to name a few).

We also have the ECB‘s latest gathering and market outlook to look forward to on Thursday (expect no change anywhere), and then, to top it all off it is no less than President Trump come Friday.

Have a good day. We will be back again tomorrow.

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.