Credit markets – cracks in the ice?

 For all the talk of frozen credit markets, the figures showing new issuance may come as a bit of a surprise to some. November has been the most successful month for new non-financial deals this year (see graph on left).  Companies have managed to issue new debt in spite of extreme risk aversion,  risk aversion that can be seen in the huge sell off in equities and credit spreads hitting all time wides. 

One of the main factors behind November’s issuance levels was desperation, and we’ve seen that companies must offer a considerable discount to attract new capital.  BMW for example, which is A rated, printed a €750m 5yr deal and had to offer investors a yield that was 6% in excess of 5 year government bonds.  (Incidentally we thought this offered good value and bought some for a few of our funds).

What’s been interesting to see is that levels of demand for the new issuance have been very strong, and the prices of the new deals have tended to trend higher in the secondary market – of the 23 substantial issues that were €500m or larger, 21 are trading at tighter spreads. And whilst the majority of paper has come from well regarded, less cyclical sectors such as utilities and telecoms, some less favoured sectors (as the example of BMW showed) have also been able to issue. What was very much a sellers market only 18 months ago is now a very different place – and we’re saying that on a day that the iTraxx Crossover index hit a record high of over 1000 bps, implying default rates of over 50% over the next 5 years in riskier credits.

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. Past performance is not a guide to future performance.

Categorised as: markets and players credit

Discuss Article

  1. John says:

    Does this mean that liquidity actions by central banks are now having an effect?  Are the base rate cuts reflected in market prices for debt yet?  It seems to me that actual rates being quoted to high street borrowers and savers are a result of supply and demand for scarce resource: cash.  As the banks don't have enough cash they are willing to pay above base rate to savers, and hence borrowers are paying much more than base rate.  Once liquidity improves more, will saving rates fall below base rate?  If so, that ought to eventually be reflected in bond/gilt prices increasing even more as investors seek out a better home for their cash.  Bring it on.

    Posted on: 08/12/08 | 12:00 am
  2. David Kerr says:

    Following the most recent blog, entitled, 'Credit markets – cracks in the ice?'.

    As you point, it is clear that there remains a high demand for any new issuance in bond markets (albeit at a price), but in your view, what is it going to take to bring some liquidity back into the secondary market, as ultimately this will be required before spreads can begin to narrow significantly?

    Do you see the large investment banks returning to this area any time soon and what are your thoughts on the likelihood of the UK government following their US counterparts and beginning to actually buy commercial paper?


    David Kerr

    Posted on: 08/12/08 | 12:00 am
  3. Matthew Russell says:

    It is unlikely that liquidity in credit markets will return to the levels seen in the "bubble years" – for a start the number of investment banks has shunk significantly, and balance sheets are needed to finance losses rather than to give to traders to build positions. Also, whilst the delevering of the hedge fund/structured credit community is probably nearing the end, there may be some more liquidation to come. Clearly though, an increase in confidence in the health of corporates, and a reduction in the anticipated level of new issuance would stimulate the secondary market. In addition I feel that the biggest factor will be the wider realisation that in a low growth, low interest rate environment, corporate bonds might well be the best performing asset class available to investors. As to your final point re commercial paper – don't rule it out. The MPC is, I'm sure, already considering some form of Quantitative Easing for the UK economy. If the banks won't/can't lend, the state will have to.

    Posted on: 11/12/08 | 12:00 am

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