IFR Editor-at-large Keith Mullin
I WAS DETERMINED on my return from the new year break to kick off my 2013 campaign with a continuation of the (cautiously) upbeat tone with which I closed 2012. In truth, the first few days of the year offered a bit of a mixed bag but I’m putting that down to first-week-back nerves.
I’m also trying to zone out of the constant whining about unfinished business, the droning on about uncertainties and the rather tedious and amateurish go-stop-go-stop “can’t quite decide what to do” flip-flopping by the professional market in order to focus on the real underlying issues.
In attempting to remain positive I’m certainly not suggesting that we’re off to the races and that I’m blithely bets-on across the board. Quite the contrary; you’ll have to have your wits about you in 2013. What I do sense, though, is that many of the uncertainties out there are known uncertainties and most conceivable outcomes have been sufficiently articulated to the extent that the market should really have factored in the likely effects.
When I refer to known uncertainties, what I mean, as an example, is that the US fiscal cliff deal was half-baked but we knew that was always the only realistic outcome. You know it’ll be the same story for US debt ceiling negotiations: the two sides will strike a deal at the 13th hour but it’ll be a muddle. Expect similar inanity around entitlement reform. In Europe, the issues in the eurozone periphery haven’t gone away – although peripheral government bond yields are recklessly suggesting a different story – and these will on occasion be a drag on sentiment.
IN THE CIRCUMSTANCES, the fact that the initial spurt of cliff-deal euphoria in equity and synthetic credit markets was taken out by profit-taking should have come as no surprise. Mind you, selling momentum was tempered by a better jobs report from payrolls processor ADP, then cautiously reversed into more gains before being curtailed again as investors seemed to read something into the FOMC minutes that they thought was new and got spooked again.
There was nothing new in the minutes and the Treasury selling that was attributed to concerns about coming off monetary life-support was already under way. The back-up in Bund futures on Friday was nothing more than a mechanical reaction.
There were never any guarantees that the Fed would keep pumping throughout 2013. While it’s too early to tell, you’ve got to factor in the possibility that stimulus is gradually withdrawn at some point this year, which will cause the US rate structure to start to normalise. On that basis, you’ll logically have to be short bonds.
BY EXTENSION, THE question is how you play credit. It probably isn’t the time yet to make big one-way directional bets but given potential moves in underlying technicals and based on the fact that on fundamentals credit surely can’t continue to perform in 2013 as it did in 2012, tactically you’d have to be at best neutral on a wait-and-see basis, dipping in and out for opportunistic short-term trading gains until the broader macro picture clears.
The global credit market had all the signs of becoming a bubble last year and still looks heavily overbought. Reactions to primary supply in the first few days of 2013 were ridiculous
The global credit market had all the signs of becoming a bubble last year and still looks heavily overbought. Reactions to primary supply in the first few days of 2013 were ridiculous: BBVA’s €1.5bn five-year senior unsecured bond attracted €5bn; pricing was tightened and the deal printed not just through the bank’s existing curve but through the sovereign as well. Books on CRH’s €1bn 12-year covered bond were twice covered and the deal was set to print on Friday at the tight end of revised guidance. Pricing on BFCM’s five-year unsecured was tightening in marketing. This is nuts and I don’t think it’s sustainable.
But what do you do? I was chatting to an institutional credit investor about this very subject late last year. He agreed that credit spreads were far too tight but that he was continuing to buy simply because everyone else was. In a benchmark-obsessed world, I can see his predicament but then we shouldn’t be surprised that we constantly get Kamikaze bubbles forming in financial markets or that people get massacred when they burst. On this basis, incidentally, you might as well have chimpanzees running institutional money.
I think credit is close to having had its run. Regardless of what happens to benchmark government bond yields, the warning signs are all there. Record high-yield debt volumes of US$389bn pushed 2012 HY underwriting fees up 37% to US$6.1bn. Emerging market corporate debt issuance rose 32% to a record US$306bn; US investment-grade debt volumes were a whisker below US$1trn, up 31% year-on-year to an all-time record.
Even accounting for the depressing year in ECM and the so-so one for M&A, the 26% rise in debt underwriting fees to US$22.5bn helped keep the 2012 investment banking wallet across M&A and capital markets underwriting at US$74.8bn, close to 2011 levels. Considering the year we’ve just had, that’s pretty remarkable, but at the same time dangerous.
The warning signs are borne out by funds flow data: EPFR’s global-tracked bond funds averaged net inflows of US$9bn a week last year to a new full-year inflow record. But here’s the one sobering statistic: half of EPFR-tracked inflows in the final 13 weeks of 2012 went into floating-rate funds. That speaks volumes. Start to layer in those bond shorts now and let’s see where we are this time in 2014.
