Saturday, 24 August 2019

'High-yield' bonds turn negative

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ECB move pushes yields into negative territory

The distortion of the credit markets by central banks has produced the ultimate oxymoron: negatively yielding high-yield bonds.

About 2% of the euro high-yield universe is now negative yielding, according to Bank of America Merrill Lynch.

That percentage would rise to 10% if average yields fall by a further 35bp, said Barnaby Martin, European credit strategist at the bank.

He said the first signs of negative yielding high-yield bonds emerged about two weeks ago in the wake of Mario Draghi’s speech in Sintra where the ECB president hinted at a further dose of bond buying via the central bank’s corporate sector purchase programme. There are now more than 10 high-yield bonds in negative territory.

“The market now seems to be expecting more stimulus in the form of CSPP. It was always going to affect high-yield bonds in the front end,” Martin said.

Some of the high-yield bonds now trading at negative yields are either short-dated bullet maturities or have upcoming calls.

Regarding the latter, the negative yield is the effect of the bond trading above the call price. However, some are bullets and therefore genuinely negatively trading, Martin said.

Irish paper packaging company Smurfit Kappa (BB+/BB+), for example, has a €500m 3.25% June 2021 bid at -0.012%, according to Tradeweb data.

American metal packaging Ball Corporation (BB+ from S&P) also has bullet bonds in negative territory. Its €400m 3.5% December 2020s are quoted at -0.003%.


The move to negative yields for European high-yield credits is unprecedented; it didn’t even happen in 2016 when the ECB began its bond buying programme.

Hans Lorenzen, a credit strategist at Citigroup, called the move a “remarkable fact in remarkable times”.

Still, he said it wasn’t surprising given the fall in government bond yields. On Thursday, the yield on the 10-year Bund fell below the ECB’s repo rate of -0.40%.

“When you have short-dated high-yield bonds where the market has a high degree of conviction that they will be paid or called, depending on what the structure is, it is possible that they fall so low that you end up with a negative yield,” Lorenzen said.

“What is unusual is to see very tight spreads and historically low yields - at the same time,” he said.

Before the financial crisis, spreads were tight but yields were relatively high.

“What is unusual is to see super-low risk premia at the same time that you have a super-low interest risk,” he said.

Citigroup analysts have been operating all year with two distinct outlines. One is a world where credit prices match fundamentals - similar to the fourth quarter of 2018, when spreads widened.

The second, which is currently dominating investor behaviour, is where credit prices to policy: where the distortions created by the liquidity from central banks form a basis for market pricing.

And with the ECB likely to embark upon another round of QE, credit markets are likely to be squeezed even tighter, Lorenzen said.


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