Trevor Cooper FCISI
Naisbitt King Bond Market Commentary 18th June 2021
The next Naisbitt King Bond Market Commentary will be 9th July 2021
Fed speak; ‘talking-about-talking-about meeting’
Renewed Inflation forecasts push yields lower
Green bond supply increases
European Union launches €20bn recovery program bond
Amazon ratings upgraded a month after its popular $18.5bn deal
Bank ratings changed with mixed results
Bank of Nova Scotia launches the largest sterling FRN this year
Saudi Aramco launches its first ever U.S. dollar SUKUK – investors put up $60bn
Federal Reserve – inflation
Federal Reserve officials held interest rates near zero on Wednesday but signalled they expect two increases by the end of 2023 as the economy recovers. The Federal Open Market Committee said that ‘Progress on vaccinations has reduced the spread of Covid-19 in the United States’. Amid this progress and strong policy support, indicators of economic activity and employment have strengthened but markets and the Fed have had differing views on the inflation outlook ahead. The Fed has been saying for months that any inflation increases will be temporary – now they were not so sure. Chairman Jerome Powell said ‘Is there a risk that inflation will be higher than we think? Yes,’. This is something markets, and investors, have been deliberating for some time. Since Wednesday the Treasury 10-year is near the three month low at 1.48%. However there continues to be a gradual decline in breakeven inflation* rates with the 10-year falling to 2.22 down from 2.56 in May - the result is the implied inflation rate for the term of the stated maturity. The widening spread between the 2 and 5-year yields also suggests there is no urgent need for the Fed to start any tapering although officials had begun a discussion about scaling back its $120bn monthly bond purchases. Jerome Powell said after the FOMC gathering this week ‘You can think of this meeting as the talking-about-talking-about meeting, if you like,’ he said, referring to the discussion about tapering purchases.
*Break-even inflation is the difference between the nominal yield on a fixed-rate investment and the real yield (fixed spread) on an inflation-linked investment of similar maturity and credit quality.
The chart below, that I have shown in the past, shows the travel of the investment grade spreads over the last couple of years. Showing spread of 88bps, spread compression has continued well below the average spread of 125bps of the last 2 years. These tighter spreads typically indicate good economic times going forward.
European Union raises record €20bn for debut bonds to fund covid recovery
Earlier this week the EU’s 27-member bloc opened books on Monday for its inaugural euro benchmark bond offering under the NextGenerationEU (NGEU) recovery program. The 10-year EU supranational bond is designed to fund its recovery from Covid-19. Once again there is no shortage of investor money looking for a home with bids topping €142bn. With a 0% coupon the deal was priced at Mid-Swaps -2bps. At $20bn the issue size is larger than the EU’s Support to mitigate Risks in an Emergency (SURE) bond’s $17bn, 2-part, deal launched last October, which had €145bn in bids. The EU is rated Aaa/AA/AAA stable/positive/stable.
Environmental Social Governance
Green minded investors chasing Environmental Social Governance (ESG) bonds have seen a large growth in supply over the last few years. Currently we do not have any exclusively green portfolios, but we can, and do include green bonds as part of a client’s bespoke portfolio, if we believe they will adhere to a client’s mandate. We do treat the idea of ESG issues with a degree of caution, however. For any investor that wishes to be truly green, they could find some bonds do not measure up as not all these bonds have the sustainability credentials that we can trust. Constant research needs to be done to make sure the borrower maintains green usage for the monies raised at issue. Many borrowers do not guarantee that they will maintain the use of the money for green purposes.
We are also wary of companies ‘greenwashing’, which is about giving the impression that a company or its products are environmentally sound. There are many examples of companies involved in greenwashing behaviour making claims that their products are from recycled materials or have energy-saving benefits. Although some of the environmental claims might be partly true, companies engaged in greenwashing can exaggerate their claims or the benefits in an attempt to mislead consumers. There are many examples of companies greenwashing including McDonald’s switching to paper straws with much fanfare, which turned out to be unrecyclable.
The new issue green market has been active this week. Three ethical bonds joined the European bond pipeline on yesterday adding to the record run in issuance of such instruments. British utility Anglian Water is looking to sell sterling sustainability-linked bonds, while Austrian lender Oberbank plans green bonds and Korea Housing Finance and German real estate company Gewobag may sell a social bond today. This follows green bonds priced overnight by lenders Banco Santander and Banque Federative du Credit Mutuel that puts ESG bond issuance at 24.3% of total volumes in European primary this year.
Naisbitt King Asset Management can always prepare, design and create an all green bond portfolio if a client wishes.
A month ago, investors put up a huge $48bn for a $18.5bn 8-part bond deal for Amazon. Now the online retailer has been upgraded by Fitch and S&P to AA- from A+ and AA from AA- respectively. Fitch said that ‘The rating considers the company's impressive track record of strategic vision and execution and its flexible operating platform, which provides growth opportunities across numerous verticals. Risks to Amazon's credit profile include some uncertainty around its long-term operating path and ongoing regulatory activity surrounding the company's market share and business practices, though these risks have been somewhat mitigated in recent years given Amazon's increased financial flexibility.’ At the time of its newest deal Moody’s raised its assigned rating to A1 from A2. Not quite the level of the other 2 agencies but not too bad. With a massive orderbook of $41bn and the ratings upgrades, last month’s new bonds are all trading tighter by about 9bps.
Mixed rating movements for banks
In our last Bond Commentary, we said that S&P had pushed the ratings outlook on a group of American banks to positive from stable. Last week was the turn of Fitch who upgraded its assigned ratings on Bank of America senior unsecured debt from AA- to AA stable. These rating changes have made little or no difference to the price on the bank’s bonds.
Moving the other way, Moody’s downgraded HSBC last week. The agency lowered the rating on the banks senior unsecured debt to A3 from A2 with the outlook changed to stable from having their ratings ‘under review’. Last month HSBC successfully raised $5bn with the issue of two senior bonds. The rating downgrade has not affected the price of these bonds which have performed well since launch. Elsewhere the bank is rated A-/A+ stable/negative.
In the largest sterling Floating Rate Note offering of the year, the Bank of Nova Scotia (BNS) was able to raise £1.3bn with a secured covered bond. The 5-year bond has a floating coupon based on SONIA + 28bps – currently this would equate to a yield around 0.33%. BNS’s covered bonds are rated Aaa/AAA/AAA. The Canadian Imperial Bank followed a day later with another 5-year covered bond which raised £1.25bn.
There seems to be a rush by borrowers to beat any rate rises that may occur later in the year. A fortnight ago Bank of America and Goldman Sachs successfully raised $9.5bn between them as issuers raced to issue. One day saw $23.1bn priced across 12 deals and 22 tranches, making it the busiest day in more than three months.
SUKUK issuance resurgence
This month we have seen a revival of dollar SUKUK offerings. Indonesia raised $3bn with a multi-tranche deal followed by Saudi Aramco’s own deal. The world’s biggest energy company launched its first ever dollar denominated Islamic bond last week. The $6bn senior unsecured 3-part deal proved incredibly popular with investors who put up a mammoth $60bn for the bonds. The Oman, Turkey, Bahraini bank Ahli United Bank and the Dubai Islamic Bank all joined the dollar SUKUK party this month, raising a not insignificant $7.6bn between them.
Asahi Mutual Life is a large Japanese insurance company founded in 1888 with a Tokyo headquarters. The company has a 2-3% market share in domestic life insurance and a stable underwriting business due to its effective focus on third sector insurance such as medical and nursing care products. In January, the company launched an enormously popular $380m bond which carried a coupon of 4.1%. This bond has a call in 10 years’ time with a coupon reset every five years at the 5 – 15-year Treasury yield curve +3.99%. (Equalling a coupon of 4.75% currently). Indeed, so popular was the perpetual bond it received offers of $6.25bn of investors’ money. Spread at issue in January was Treasury +299.30bps – today it is at +230bps. Asahi Life is rated by Fitch at BBB+ with this subordinated bond assigned a BBB- stable. The price of the bond has risen over 2 points since purchase.