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Credit buoyed by a 'presidential' Trump and growth hopes

By Paul Kilby, Shankar Ramakrishnan and Natalie Harrison

NEW YORK - Credit markets rallied Wednesday on what market participants described as a very "presidential" speech by Donald Trump and optimism about the strengthening US economy which looks likely to trigger an imminent rate hike by the Federal Reserve.

President Trump, known to stir the pot with controversial speeches, sounded measured when speaking for the first time to a joint session of Congress on Tuesday night.

He touched on his controversial campaign promises that range from border taxes to the deportation of illegal immigrants, but stopped short of detailing any major policy measures - and that helped keep market sentiment positive.

"Our expectation was that this would be a rallying cry and that is what it was," said Lisa Hornby, a senior portfolio manager at Schroders.

"The fact that he sounded reasonable and he is still calling for something that the market reacted well to – such as infrastructure and tax reform - is positive."

Equity indices soared, while the CDX IG 27 index dipped below 60bp for the first time since April 2015 as market players continued to bet that the new administration will help bolster the economy and bring jobs back to the US.

That positive tone, which has prevailed since Trump was elected in November, should help spur more corporate bond issuance - currently running at its fastest clip ever.

High-grade issuers raised just over US$91bn last month - the fourth busiest February ever - and took 2017 volume past US$267bn, or over US$50bn more than by the same date last year.

And as cash keeps pouring into the asset class - inflows are running at just over US$22.9bn for high-grade so far this year, according to Lipper - the market looks set to keep rolling on.

"Corporates are best advised to pull forward their funding plans to capture the strong investment appetite which is driven partly by cash held by investors that were on the sidelines," Thomas Mercein, global head of DCM at Credit Suisse, told IFR.

"These investors were cautious going into this year, but now they are coming in encouraged by the prospect of lesser regulation and tax reform."

HIKE NEARS

Even the prospect of a rate hike mid-month was not enough to dent the market's confidence.

The odds of a 25bp rate hike in March jumped to over 80% this week according to Fed funds futures - from a high of 30% just a week ago - after New York Fed President William Dudley said the case for monetary tightening had become "a lot more compelling".

San Francisco Fed President John Williams also said he saw "no need to delay" raising rates.

If anything, that should help drive more issuance in the near term at least, bankers said.

"There are expectations of volatility later this year because of European elections and now (because of) the increased possibility of an interest rate hike," one senior syndicate banker said.

Some investors, however, are more cautious about valuations following the near four-month long "Trump" rally and are becoming more conservative by buying higher quality credits.

As of Tuesday, average high-grade spreads had tightened 8bp year-to-date, putting the index just 15bp wide of the post crisis low of 106bp seen in June 2014, according to Bank of America Merrill Lynch data.

"Returns on credit investments from here may not be as high as they were in previous years given the prospect of higher interest rates but high-grade credit is still a relatively attractive place to invest, ” said Credit Suisse's Mercein.

High-grade bond investments have returned some 1.546% year-to-date while those in junk bonds yielded 2.924%. The S&P 500 index in the same period rose 7%.

Geopolitical risks in the form of French elections or Britain's exit from the European Union, as well as tax reforms in the US remain significant risks for the market.

But for now the market looks set to fire on all cylinders.

"As long as the market appears to be resilient and is at least retaining some of the optimism and exuberance, a Fed rate hike shouldn’t really derail any of that," said Jon Duensing, deputy chief investment officer at Amundi Smith Breeden.

"We are nearing full employment and inflation is picking up so no one believes at this point that a continuation of policy normalization is a big surprise," he said.

(Reporting by Paul Kilby, Shankar Ramakrishnan and Natalie Harrison; editing by Jack Doran)

 

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