Credit Traders Have No Room for Error in Dot-Com Bubble Redux

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A growing chorus of analysts is warning that high-quality company debt may have nowhere to go but down as investment-grade spreads approach levels last seen in the lead-up to the dot-com bubble.

“The best days are behind” for corporate credit, Morgan Stanley strategists led by Srikanth Sankaran wrote in a May 16 midyear outlook. “The combination of extended valuations, less favorable technicals and a slower pace of balance sheet repair suggests that credit markets have progressed to a mid-cycle environment.”

Spreads on BBB rated bonds, which account for more than half of the high-grade universe, narrowed to an average of 106 basis points over Treasuries on Monday, fueled by investor demand for the lowest-rated yet highest-yielding part of the asset class. Should spreads breach 100 basis points, it would be the first time since the dot-com era of the late 1990s.

Morgan Stanley is calling for 17 basis points of widening for U.S. investment-grade bonds through the first half of 2022, and downgraded its credit outlook to neutral.

Meanwhile, Bank of America Corp. expects another stretch of rising Treasury yields will “lead the market to price in a much faster rate-hiking cycle,” strategists led by Hans Mikkelsen wrote in a note distributed Monday. That will cause spreads to widen in the coming months as investors are pushed to either sell or sit on the sidelines.

Credit Traders Have No Room for Error in Dot-Com Bubble Redux

Still, some say BBBs, the best performing tier of high-grade credit this year, may continue to enjoy a tailwind despite the tight spreads. Citigroup Inc. notes that President Joe Biden’s bailout of multi-employer pensions may spur tens of billions of dollars in demand for corporate bonds with the lowest investment-grade ratings.

Morgan Stanley’s bearish forecast for credit overall also favors BBBs due to their marginally higher yields, with expectations that returns will now be driven “by carry and credit-picking rather than beta and capital appreciation.”

And duration is also working in the rating bucket’s favor. With shorter average maturities than higher-rated corporate debt, BBBs are less exposed to losses from rising rates.

U.S.


Seven companies are looking to sell fresh debt in the U.S. investment-grade bond market Tuesday, including Charter Communications and Microchip Technology. Monday’s session saw the week kick off with almost $20 billion in new sales from 10 issuers.

  • Borrowers are growing increasingly frustrated at a perceived failure by banks to explain their Libor transition plans and offer products tied to replacement rates.
  • For the first time since January 2020, U.S. bankruptcy courts saw no large Chapter 11 bankruptcy filings last week.
  • Eric Cole’s Warlander Asset Management will combine with Ellington Management Group as the investment firms seek to expand their corporate credit capabilities, according to an investor letter seen by Bloomberg.
  • For deal updates, click here for the New Issue Monitor
  • For more, click here for the Credit Daybook Americas

Europe

A triple-tranche sale from American Tower and the final SURE offering from the EU led a jam-packed day for deals in Europe’s bond market.

  • Credit Suisse Group AG on Monday issued its first euro and sterling notes since the collapse of Greensill Capital and Archegos Capital Management. While the sales left demand for the bank’s debt in no doubt, they also highlighted increases in the bank’s funding costs since March.
  • Lender calls for Carnival, Solera and Vocus term loans were Tuesday, while commitments were due for Azelis.

Asia

China Huarong Asset Management Co. has transferred funds to repay a $300 million bond maturing Thursday, according to a person familiar with the matter.

  • Still, bondholders in the bad-debt manager may face significant losses, with China planning an overhaul that would hit both domestic and foreign creditors, according to a New York Times report.
  • As the Huarong saga increases scrutiny of ‘bad bank’ debt globally, India’s version will keep a tight leash on its own debt financing, according to a top official of the association helping to finalize the details.
  • Global banks are losing share in the $186 billion lending market for Chinese borrowers offshore, falling behind local rivals boosting their presence just as the nation’s corporate sector recovers from the pandemic.

©2021 Bloomberg L.P.

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