After a lousy start to the year, risk assets made an impressive recovery in March,
recouping all of the year-to-date widening. A new round of European Central Bank
(ECB) QE, dovish Yellen speak, a weaker dollar and higher commodity prices were the
main drivers. Macro concerns and Brexit fears seem to have taken a back seat, for the
moment at least, to the prospect of low rates forever and corporate bond buying from a
central bank.
The ECB announced more stimulus, including negative lending rates on new TLTRO’s
and an expansion of its bond purchase program. In an effort to spur lending, banks
that meet certain criteria would be able to borrow funds via the LTRO at the deposit rate
of negative 40bps. The ECB’s monthly bond purchase program will increase by 20 bln
(euro) to 80 bln starting in April, and will now include euro-denominated investment
grade corporate bonds issued by non-bank companies established in the euro area. The
size of the Euro IG non-financial QE- eligible corporate market is estimated at 750 bln
euros. The full details and parameters of the corporate sector purchase program will be
forthcoming. Many questions remain including: how the purchases will be effectuated
(directly by ECB or via asset manager), how will purchases be spread across the different
countries, what are the maturity and issue size restrictions, and whether purchases can
be made via the primary market. While the immediate aftermath of the ECB’s actions
was a boost in demand for risk assets, the longer term outcomes are yet to be seen
– specifically, how the ECB’s underwriting of credit risk translates into real economic
growth. There is certainly the risk that the amplification of cheap credit will further
encourage corporations to add leverage, thereby prolonging the cycle – and the day of
reckoning.
Credit Index Spread vs. Crude
Source: Bloomberg, Barclays
U.S. Corp. vs. Euro Corp Spreads
Source: Barclays
Credit Spreads and Yields
Source: Barclays
Index Performance: After touching the wides (4yr wides) of +200 on 2/12, credit spreads have rallied back to +154, recovering all
of the year to date widening. The credit index was 30 basis points tighter in March, posting an excess return of 2.36% and total
return of 2.52%. Industrials and higher beta sectors outperformed, led by BBB’s, energy, metals and sovereigns.Commodity prices
recovered off the lows, and as a result, metals were 70 bps tighter on the month, bringing the ytd excess return to 7.56%. Independent
energy spreads tightened 155 bps in March (from +498 over to +343), bringing the ytd excess return to -.9%, and midstream
sector spreads tightened 102 bps in March, posting a 2.92% ytd excess return. Next best performing sectors (outside of commodity
related) were telecom (-43 bps), cable (-41 bps) and media (-42 bps). There were several catalysts to the tightening in the
communications sectors: In the media and cable sectors, earnings were generally healthy as advertising revenues were strong and
subscriber trends were positive. In the telecom sector, VZ tendered for ~ $12 bln of U.S. debt using the proceeds from wireline
asset sales. This was positive from both a technical (investors need to replace the exposure) and fundamental perspective. Given
the company’s goal of getting back to pre- VOD (VZW stake acquisition) leverage (<2x) and ratings (low single A) by 2018-2019,
this is a step in the right direction.
March Credit Index Returns:
Source: Barclays
Year-to-Date Spread Moves by Sector, Relative to the U.S. Corporate Index
Source: Barclays Research
Note: Includes credits downgraded to high high yield in 2016, to control for compositional effects
Corporate Index Spreads – Back to Beginning of Year Levels
Source: Barclays Research
*Includes issuers that have fallen to high yield in 2016.
Supply: IG issuance totaled $126 bln in March. Financial issuance dominated, accounting for about 60% of supply as M&A
related industrial issuance was relatively modest. The largest financial deal came from BRK, issuing $9 bln bonds across several
maturities to help fund the PCP acquisition (5yrs printed at +90, 10yrs at +130). Several Yankee banks came to market, including
UBS (10yr sr holdco priced at +235) and Lloyds (10yr sub holdco @ +278). M&A related issuance included BRK, NWL ($8 bln
multi tranche deal to fund Jarden acquisition, 10yrs priced at 235, 30yrs at 285), SYK ($3.5 bln across 4 tranches), and SYY ($2.5
bln across 4 tranches). April supply volumes are expected to be lighter than March, given earnings blackout periods, but still
above the $100 bln mark.
HG Supply Related to M&A
Source: BofA Merrill Lynch Global Research
Monthly IG Supply
Source: BofA Merrill Lynch Global Research
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