Credit Market Daily #24 %author %

27-Sep-2022

Good Morning!

Gilts remained under pressure yesterday and the BoE’s intervention was relatively laissez-faire:

“As the MPC has made clear, it will make a full assessment at its next scheduled meeting of the impact on demand and inflation from the Government’s announcements, and the fall in sterling, and act accordingly. The MPC will not hesitate to change interest rates by as much as needed to return inflation to the 2% target sustainably in the medium term, in line with its remit.”
BoE, 26-Sep-2022

GBP/USD recovered to around 1.08 as the USD weakened – headlines abound of bets on parity being placed and investment banks are beginning to come out with lower forecasts – Morgan Stanley sees GBP/USD at 1.02.

Gilts continued to price in outsized moves in rates as markets see the BoE having to hike at least 100bps at its November meeting.

I continue to think that markets will force the BoE’s or the Governments hand – but Gilts are opening 10bps tighter across the curve so maybe the market finds a natural equilibrium – perhaps the BoEs stiff upper lip approach will work.

Huw Pill of the BoE is speaking today and we would expect him to talk about the Central Bank’s stance.

For context, the moves in Gilts on a 12-month basis are all 3 to 4 standard deviation moves – tail-event territory.

The Charts below show the change in the UK Yield curve moves with the belly of the curve up some 100bps.

UK Mortgage lenders are pulling mortgage deals and UK homebuilders also saw their equity decline on the back of higher and volatile rates expectations.

At the time of writing, equities are opening up positive, with the FTSE flattish. Xover is 13bps tighter at 641.

Perhaps the markets will take a breather today.

Credit

High Yield

European High Yield continued to be weak and performed in line with equities at best returning-48bps on the day, its spread widening +16bps to Z+578.

Single Bs underperformed the rest of the index returning -60bps.

Xover widened +18bps on the day to 655 roughly in line with cash moves. It is worth noting that Xover’s spread is trading at a Z score of 2.13 whilst European High Yield cash has a Z score of 1.61.

This suggests that cash has some catching up to do in terms of spread widening but needs to be caveated with the Xover’s use in hedging and cash indices can smooth moves.

Verisure – is braving the high yield market which is fantastic. The company is well known, a proper high yield company rated B1/B, proven cash flow generation and relatively stable, albeit high leverage.

The deal is a 5-Year Non-Call 2 and €500m benchmark side.

Unlike the Citrix deal this is less of a “top of the market deal” being a refinancing of its 2023 debt. This could be a much better test of market appetite as well as a lesson in how much more expensive refinancing is for issuers.

Verisure’s existing 2027 Senior Secured Bonds yield 8.75% and trade at a cash price of c. 80.875 for context. How much will the new issue premium be?

In terms of Leaders and Laggers – Intrum continued to be under pressure in Euros in GBP duration continued to be punished.

Matalan’s announced restructuring saw bonds end the day 4.7points higher

Leaders and Laggers

Investment Grade

Investment-grade credit underperformed on the day driven by a continued move wider in duration. The European Pan Corporate Agg ended the day down -86bps, taking its month-to-date loss to -3.38%.

The index’s Z spread ended the day +3bps wider at 205. This was in line with the performance of the Itrax Main index which ended the day 4bps wider at 134bps.

The refrain remains the same, high quality, low coupon, and long duration continued to underperform. With Govvies opening tighter this morning, there may be some respite today.

In the US Investmentgrade cash outperformed its European counterpart with spreads 2bps wider and returning -19bps on the day.

Yesterday saw 2 corporate issues announced – Electrolux and Arkea.

Arkea (Aaa/AAA) was a 6-year covered bond that was priced at mid-swaps +8, vs guidance of mid-swaps +12, books were over €850m for a €500m deal.

Electrolux (A-) priced a 4-year deal in line with initial guidance at mid-swaps +115, books were €600m for a €500m deal.

Net-net, there looks to have been appetite but neither deal had crazy demand with books less than 2x covered.

Rates

Yesterday saw government bonds widen further, this morning it looks like there is some respite with the main benchmarks opening tighter.

Huw Pill, BoE Chief Economist is due to speak at 11 a.m. and this may increase Gilt volatility.

The 10 Year Treasury, Gilt and Bund yield 383, 411 and 209bps respectively.

Of note is the Bund -BTP spread which continues to leak wider +8 bps on the day to 250bps.

This is approaching pandemic wides and we may hear more about the ECB’s anti-fragmentation tool as a result.

Equities

Equities continued their slide yesterday with Europe mixed – the FTSE was flat +3bps on the day and the MIB +67bps on the day. The rest of Europe was down between -18 and -99bps.

In the US the Dow Jones entered a bear market – down 20% from recent highs down -111bps on the day. the S&P and Nasdaq were down -103bps and -60bps respectively.

Europe is currently up between +0 and +60bps, and US futures point to a reversal of yesterday’s losses.

Today’s Events

Economy

A US-centric day – Durable Goods, Conference Board Consumer Confidence, Richmond Fed Manufacturing and New Home Sales.

Reporting

Saga

What Has Caught Our Eye

BBBs vs. BBs

Investment grade is coming to the fore as yields continue to rise and the relative value of the asset class becomes more attractive.

There are an increasing number of headlines advocating investment grade over high yield so I thought I would have a quick look at where BBBs are relative to BBs in Europe.

Looking at the ratio of BB to BBB Index Z spreads. BBBs have underperformed BBs in spread terms with BBs offering a multiple of 1.89x BBB spread, this compares with a 10-year average ratio of 1.92x.

So – yes BBBs look cheap but not significantly cheap on this metric. I will have a look at risk-adjusted returns between the two tomorrow.

Asteroid Smash

Not Credit – but the stuff of science fiction – Nasa launched a satellite into an asteroid to alter its course in an Armeggedon-Esque practice run at stopping an extinction event.

It will take some weeks to judge the success of the mission – but the fact they managed to target the asteroid is in itself a victory.

Oil Lower – Opec to act?

Oil had a positive day yesterday helped by a weaker dollar, but overall the trend has been lower the last few weeks.

We have the Opec+ meeting next week on the 5th of October and we should expect some defence of oil prices with cuts likely to be announced.

Any upward pressure on prices from an inflation standpoint is unwelcome.

Credit Market Daily #24