Friday, December 10, 2010

Weekly Credit Strategy Update : Liquidity dries out as 2010 comes to an end

Liquidity in the credit market is becoming scarcer.
The primary market is closed – likely to remain so for the rest of the year.

Market comment
Liquidity dries out as 2010 comes to an end

Liquidity was thin during the week as investor focus was on locking in performance for 2010. Consequently, we do not expect too much trading activity for the rest of the year.

Despite the poor liquidity, spreads went a bit tighter during the week. Investors did not dwell on last Friday’s disappointing US unemployment numbers for long and the week started out with improved risk appetite and a relatively good performance in the credit markets. However, for the rest of the week the markets traded flat while struggling to find a direction. Compared with last week, iTraxx Europe is currently unchanged while iTraxx Crossover is trading 12bp tighter.

PIIGS remain on the radar as EU countries face disagreements

A week after the Irish bailout, disagreements between the EU countries remains an issue. The German chancellor, Angela Merkel, rejected a proposal by Italy and Luxembourg to allow the European Union to issue joint euro-zone bonds (E-bonds). Furthermore, a proposal to increase the size of the EU bailout fund was also rejected. The latter proposal was put forth by the Belgian finance minister following rising yields and wider CDS on Belgian government bonds.

Fitch also downgraded Ireland from ‘A+’ (negative outlook) to ‘BBB+’ (stable outlook) at the end of the week. We expect the situation with EU sovereign debt to remain a key focus for credit investors as there is no quick fix to the problems.

Apax in talks to buy ISS in what would be the biggest post-crisis buyout

According to the international media, Apax Partners is now in exclusive discussions to buy ISS Holding. The private equity fund has two months to arrange financing for the rumored USD8.5bn offer. ISS’ current owners, Goldman Sachs Capital Partners and EQT, continue to run a multi-track sales process, which includes considering an IPO.

In terms of exposure to the various ISS bonds, embedded options are of significant importance. We remain positive on ISS Holding 2016 bonds due to limited downside in event of a secondary buyout and attractive upside in an IPO, while we are negative on ISS Financing 2014 bonds.

The primary market
Chinese bond issuance on the rise
Chinese bonds seem to be gaining traction as global issuers are looking to diversify their funding sources. Following issues from Caterpillar in November (CNY 1,000m) and McDonald’s in October (CNY 200m), BP is now considering issuing Renminbi bonds which are expected to dwarf the previous issues in size.

Issuers turn to the dollar market before year-end
Although some corporate issuers showed an interest in issuing bonds before the end of the year, demand from investors has decreased substantially and is not expected to pick up again until 2011. With the European primary market being more or less closed, most issuers turned to the US market for USD-denominated bonds (see table below). This follows a statement from Ben Bernanke that he does not rule out an expansion of the quantitative easing programme and the fact that the US Congress has finally come to terms on the new tax reform.
Full report: Weekly Credit Strategy Update : Liquidity dries out as 2010 comes to an end

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