Credit markets are still considered to be in their 30-or-so-year bull run, but this does not mean that it does not have its fair share of issues. Apart from the fact that yields are trading significantly below their historical averages, the outlook remains somewhat on edge as growth from China remains a worry, emerging market fears persist, upside remains somewhat capped (the same cannot be said for the downside), the first rate hike in the US is seemingly round the corner and liquidity in the secondary market appears very thin.
Despite this, inflationary pressures in the Eurozone remains stubbornly low, the growth outlook remains bleak and the markets highly anticipate the ECB to extend and/or expand its QE program, rendering credit a somewhat attractive investment alternative. Similarly, government bond prices could remain supported heading into the New Year with spreads tightening simultaneously, and borrowing costs should remain subdued, which augurs well for the argument in favour of European companies registering sustainable profits.
Last week was all about the famous 17 September FOMC meeting, whereby markets were split as to what the outcome of the monetary policy committee would be (to hike rates or not). From a European credit market’s perspective, we think that any eventual increase in rates will not impact European bonds to a great extent, as Eurozone credit appears to be more concerned on the healthy and state of the domestic economy (for the time being) rather than get fixated on the first US rate hike.
It then comes as no surprise that developments in China and EM in particular continue to pose a threat to European credit. Furthermore, the lack of inflation, slow economic recovery, and prospects of a fresh wave of QE could keep demand for bonds in check, but we would not exclude any additional bouts of volatility in the interim. In the absence of key central bank decisions, we would expect activity on the primary and liquidity on the secondary markets to dictate yield direction.
It is worth mentioning that following the Greek and Chinese impasse over the summer months, the large majority of asset classes have shown a mild-to-moderate recovery, but the flurry of primary market activity has resulted in European IG corporate bonds lagging somewhat behind. HY on the other hand has been somewhat resilient, despite losing some ground over the past few trading sessions.
The markets will be eagerly awaiting the release of PMIs on both sides of the Atlantic as well as key confidence figures. With the sliding of confidence indices in recent months, mainly reflecting the after effects of the Greek bailout talks as well as China hard-landing fears, US markets will be all eyes on the University of Michigan confidence release this coming Friday, having dropped during the past three months.
Volumes in the primary market have been relatively light but have a laden pipeline over the coming weeks, and are expected to remain so till at least reporting season kicks off in mid-October. Earlier this week, HSBC announced and priced another AT1 issue, whilst VW pretty much took most of the spotlight on the secondary market on the back of the emissions-rigging scandal. This news negatively impacted prices of both VW shares as well as VW bonds.
This article was issued by Mark Vella, Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt .The information, views and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.