Warning Signs Are Emerging in Credit Markets as Yields Rise

Concern is mounting in corporate credit markets globally as longer-term Treasury yields continue to rise, leading borrowers from New York to Tokyo to delay bond sales and strategists to warn of trouble ahead.

Gauges of credit fear jumped in Europe for investment-grade and high yield debt on Friday. Two borrowers that had expected to sell bonds in the U.S. opted to push their offerings into next week, after a stronger-than-expected jobs report brought fresh inflation concerns and lifted the 10 year Treasury rate briefly above 1.6%. The extra yield that investors demanded to own U.S. corporate bonds increased 4 basis points on Friday to 96 basis points, the biggest jump since Nov. 12, Bloomberg Barclays index data show.

In the U.S. junk market, Ronald Perelman’s Vericast Corp. withdrew a $1.775 billion bond offering after failing to reach an agreement with investors on terms. And in Asia, two state-owned firms in India withdrew planned rupee note sales on Thursday and at least three Japanese companies have put off yen debt offerings in recent days.

Warning Signs Are Emerging in Credit Markets as Yields Rise

Still, there are signs that the party isn’t over just yet for corporate bonds. In the U.S. credit derivatives market, the Markit CDX North American Investment Grade Index, which investors use to hedge against defaults on company notes, fell from a four-month high, signaling that firms trading that instrument are a bit less concerned about credit risk. Dealers expect as much as $50 billion of bond sales next week, after more than $65 billion of sales this week.

But market sentiment may be shifting. On Thursday, companies selling bonds in the U.S. got orders for just 1.8 times the amount of debt for sale, far below the average of 3.2 times for this year or four times for all of last year, according to data compiled by Bloomberg.

Strategists are starting to sound alarms. Bank of America Corp. cut U.S. investment-grade credit to underweight in a note dated Thursday, citing its expectations that yields will continue to rise, which will likely push credit spreads wider. The underweight is a temporary trade, strategists led by Hans Mikkelsen wrote.

Citigroup Inc. warned high-grade investors to “brace for fund outflows” in a Thursday note. Spread tightening is no longer offsetting rising Treasury yields, strategists led by Daniel Sorid wrote, adding that a flight-toward shorter duration strategies may be coming.

The speed at which rates have risen is a concern for Barclays Plc, which is watching for a “shift in sentiment” on credit, according to a Friday note. Spreads have been resilient so far, “but there is some risk for spreads in the near term from a more disorderly move higher in rates,” strategists Bradley Rogoff and Shobhit Gupta wrote.

Sentiment soured Thursday after Federal Reserve Chairman Jerome Powell told a Wall Street Journal webinar that the recent run-up in yields was notable, but declined to be drawn on what tools might be used if disorderly conditions or any persistent tightening in financial conditions threatened the Fed’s goals. With energy prices rising and Covid-19 vaccines fueling bets that an economic rebound will spur inflation, financing costs have started to bounce back from recent lows.

In Europe, issuance remains robust for now, and notwithstanding recent bouts of turmoil, selling bonds remains cheaper than it was at the beginning of the coronavirus crisis.

Companies and governments have sold over 407 billion euros ($487 billion) of bonds so far this year, the region’s fastest pace of issuance ever, according to data compiled by Bloomberg.

Warning Signs Are Emerging in Credit Markets as Yields Rise

“Issuers want to take advantage of this supportive environment provided by the central banks, before the market starts to anticipate tapering,” said James Cunniffe, director for corporate syndicate at HSBC Holdings Plc. “As we enter the second quarter, we expect to see a more normalized level of supply reverting back to previous years’ volumes.”

U.S.

Mobile gaming company Playtika Holding Corp. sold its debut junk bond Friday.

  • A group of unsecured lenders to Hertz Global Holdings Inc. are proposing an alternative reorganization of the rental car company that would take it public, a move that counters a plan to sell the company to two investment funds for as much as $4.2 billion.
  • For deal updates, click here for the New Issue Monitor
  • For more, click here for the Credit Daybook Americas

Europe

Booming ethical debt sales have increased the market share of green, social and sustainability debt to 17% of this year’s syndicated debt volumes, from around 7% a year earlier.

  • The much maligned London interbank offered rate is finally within sight of retirement after the U.K. Financial Conduct Authority confirmed that the final readings for most rates will take place on Dec. 31
  • The Republic of Italy’s debut green bond was the most-subscribed deal in Europe’s primary market this week, according to data analyzed by Bloomberg

Asia

China’s Ji’an Chengtou Holding Group was the sole borrower selling a dollar bond on Friday.

  • “Inflation is likely to rise sharply in developed and emerging markets in the coming months on unfavorable base effects and higher commodity prices,” said Michael Biggs, macro strategist and investment manager at GAM in London. “We do not think the rise in inflation will be sustained, but it could scare the market”
  • Combined with relatively lower liquidity versus investment grade and potential outflows, Asia high yield is ripe for a correction, according to Ek Pon Tay, a senior portfolio manager for emerging market debt at BNP Paribas Asset Management
  • In mainland China, a recent jump in defaults has led investors to favor safer assets, which is being reflected in smaller risk premiums for local-currency top-rated corporate bonds

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