TwentyFour Blog

he first quarter of 2019 is coming to an end and after a bumpy end to 2018 we did not expect to see a lot of issuance of new CLOs once the pipeline had cleared. But although CLO debt remains expensive for equity investors (arbitrage has only gotten worse as the leverage loan supply is still slow) there seems to be no end to new deals coming to the market. There are a few things that for us as debt investors stood out; the strong Japanese bid for AAAs, structural differences, varied pricing and spreads that have not recovered as quickly as for similarly rated corporate bonds.

The big monetary policy event over the month was the increase of monetary stimulus announced by the ECB after two years of slowly weaning the Eurozone off extremely easy money. At the ECB meeting of Thursday the 7th of March Mario Draghi announced the introduction of new TLTRO (the last round ended in December 2018, so this is TLTRO III) and interest rates guidance was modified for the current levels to remain to the end of 2019 (previously mid 2019). Market consensus is for an even longer pause.

One of the elements we look at on our dashboard that guides us on the state of the economic cycle is credit rating migration. We look at spread movements too, but rating change gives us another line into the risk that rated entities are taking or are confronted with. While we recognise that rating change is a backward looking indicator, viewed in conjunction with other measures, it is possible to draw some important conclusions.

Investors decided fairly early this year that, with the help of a dovish Federal Reserve, the big negative move of Q4 2018 was not signalling the beginning of the end, and was instead a dip to be taken advantage of. The rally since has barely paused for breath, with a sustained and broad-based recovery taking hold.

We wrote a blog a month ago, “January: the Month of ABS-tinence”, about the level of new issuance in the European ABS market, and the slightly counter-intuitive impact it was having.

Investors have rightly been concerned about the coordinated global economic slowdown, but in Europe it has been worse than that with the major economies flirting with recession. Consequently investors have been cautious on European assets, but has this caution now reached its peak?

Over the past couple of quarters we have been inundated with questions regarding the banking sector, and in particular how it will perform should the current economic cycle deteriorate.

Yesterday the Office for National Statistics released strong data on the UK labour market, which was music to the ears of UK RMBS investors. The headline unemployment rate stands at 4.0%, roughly unchanged for the last six months and at the lowest level seen in the last 45 years. There are an estimated 32.6 million people employed, 444k more than a year earlier, and more importantly average weekly earnings grew by 3.4% (the highest for over 10 years and 1.2% in real terms).

The big news yesterday came from Santander, when the Spanish lender finally announced, just a few minutes before the deadline expired, that it wouldn’t be calling its 6.25% AT1 on the first call date of March 12.

For fixed income investors, it has been impossible to ignore the proliferation of press coverage about the growth of the triple-B rated corporate bond market and the prospect of the next economic downturn sparking a wave of downgrades for companies rated BBB to high yield, with these ‘fallen angels’ exposing investors to mark-to-market losses at best, and defaults at worst.

So far 2019 has been supportive for risk markets. The Fed appears to have adopted a more passive approach, easing market fears of a potential policy error, and in early January we heard conciliatory rhetoric from the US and China pointing to a workable solution to the trade tariff situation. However, the investor exuberance we saw in January has become noticeably more cautionary this week, as geopolitics have once again heightened uncertainty along with some softer looking economic fundamentals and a rather mixed set of corporate earnings. No surprise, then, that asset prices have undergone a slight correction as we head into the weekend.

The Federal Reserve’s Senior Loan Officer Opinion Survey on Bank Lending Practices – from now on let’s just call it ‘the survey’ – was released last night, and as usual provided us with useful insight. The survey was conducted between December 21 and January 7, and covered 73 US domestic banks and 22 branches of foreign banks.