Global Investing

Barclays sees 20 pct rise in EM bond supply in 2014

Sales of dollar bonds by emerging governments may surge 20 percent over 2013 levels, analysts at Barclays calculate.  They predict $94 billion in bond issuance in 2014 compared to $77 billion that seems likely this year. In net terms –excluding amortisations and redemptions — that will come to $29 billion, almost double this year’s $16 billion.

According to them, the increase in issuance stems from bigger financing needs in big markets such as Russia and Indonesia along with more supply from the frontiers of Africa. Another reason is that local currency emerging bond markets, where governments have been meeting a lot of their funding needs, are also now struggling to absorb new supply.

The increase is unlikely to sit well with investors — appetite for emerging assets is poor at present, EM bond funds have witnessed six straight months of outflows and above all, the projected rise in sovereign supply will come on top of projected corporate bond issuance of over $300 billion, similar to this year’s levels. (See graphic)

Barclays write:

Our overall supply forecast does not appear particularly supportive for EM sovereign credit going into 2014, and the outlook could be further clouded if issuers try to meet their financing requirements early in the year, seeking to take advantage of still-low core rates, and hence modest overall financing costs, before an eventual start of QE tapering leads to a rise in US Treasury yields.

JPMorgan also is advising clients to go neutral on hard currency emerging debt (it had recommended moving overweight in September after the Fed decided to defer tapering), noting that elections in many developing countries and slow growth are additional headwinds for the sovereign sector. JPM expects that returns on the sector next year will be no more than 1.6 percent, though that is still better than the minus 7 percent it is projecting for 2013.

Emerging corporate debt: still booming

The corporate bond juggernaut continues apace in emerging markets.

In a note at the end of last week, analysts at Bank of America/Merrill Lynch estimated that companies from the developing world have sold debt worth $179 billion already this year. Originally, the bank had forecast $268 billion in corporate debt issuance in 2013, a touch below last year’s $290 billion but it is finding itself, like many others, marking up its estimates.

Oleg Melentyev,  credit strategist at BofA/Merrill, writes that recent bumper bond sales imply quarterly issuance is running at 10-11 percent of market size, well above the past average. Melentyev points out that the first 4.5 months of the year tend to account for 35 percent of full-year total debt sales by EM companies.  If this formula were applied now,  it would imply total 2013 new debt issuance at $420 billion.

For now, however, the bank expects $316 billion in full year corporate issuance from EM, with Asia accounting for $126 billion of this.

Russian companies next stop for Euroclear

The excitement continues over Russian assets becoming Euroclearable.   Euroclear’s head confirmed last week to journalists in Moscow that corporate debt would be the next step, potentially becoming eligible for settlement within a month. Russian equities are set to follow from July 1, 2014.

What that means is foreign investors buying Russian domestic rouble bonds will be able to process them through the Belgium-based clearing house, which transfers securities from the seller’s securities account to the securities account of the buyer, while transferring cash from the account of the buyer to the account of the seller.

The Euroclear effect in terms of foreign inflows to Russian bonds could be as much $40 billion in the 2013-2014 period, analysts at Barclays estimated earlier this month.  Yields on Russian government OFZ bonds should compress a further 50-80 basis points this year, says Vladimir Pantyushin, the bank’s chief economist in Moscow, adding to the 130 bps rally in 2012. Foreigners’ share of the market should double to 25-30 percent Pantyushin says, putting Russia in line with the emerging markets average.

Record year for global bond markets in 2012

How good was 2012 for bond markets? Very good, by the look of the many records broken.

2012  was the strongest year for global high yield and investment grade debt on record, new issuance of corporate debt from emerging markets issuers was also the strongest since records began in 1980 and activity on global debt capital markets were overall up 10 percent from 2011, Thomson Reuters data shows.

Euro-denominated international corporate debt increased 69.5 percent, making 2012 issuance the second largest on record behind 2009.

Rollover risks rising on high-yield bonds

Emerging market corporate debt is in high demand, as we pointed out in this article yesterday.  But we noted headwinds too, not least the amount of debt that will fall due in coming years as a result of the current bond issuance bonanza.

David Spegel, head of emerging debt research at ING in New York is highlighting a new danger — that of the exponential increase in speculative grade debt, especially from developed markets, that is up for rollover in coming years. A swathe  of credit rating downgrades for European companies this year mean that many fund managers who bought high-grade assets, have now found themselves holding sub-investment grade paper.  He calculates in a note this week that $47 billion of “junk” rated European paper will find itself up for refinancing in the first half of next year, more than double the levels that were rolled over in the first half of 2012.

It gets worse. The big danger now is that as Spain and Italy tumble into the junk-rated category (Ratings agency S&P on Wednesday cut Spain to BBB-, just one notch above junk) their blue-chip companies may well have to follow suit.  Spegel estimates over $100 billion in Spanish and Italian BBB rated corporate bonds are due next year. If these slip into speculative grade, it would triple the amount  of high-yield paper that needs refinancing in the first six months of 2013.

Emerging corporate debt tips the scales

Time was when investing in emerging markets meant buying dollar bonds issued by developing countries’ governments.

How old fashioned. These days it’s more about emerging corporate bonds, if the emerging market gurus at JP Morgan are to be believed. According to them, the stock of debt from emerging market companies now exceeds that of dollar bonds issued by emerging governments for the first time ever.

JP Morgan, which runs the most widely used emerging debt indices, says its main EM corporate bond benchmark, the CEMBI Broad, now lists $469 billion in corporate bonds.  That compares to $463 billion benchmarked to its main sovereign dollar bond index, the EMBI Global. In fact, the entire corporate debt market (if one also considers debt that is not eligible for the CEMBI) is now worth $974 billion, very close to the magic $1 trillion mark. Back in 2006, the figure was at$340 billion.  JPM says:

10%-plus returns: only on emerging market debt

It’s turning out to be a great year for emerging debt. Returns on sovereign dollar bonds have topped 10 percent already this year on the benchmark EMBI Global index, compiled by JP Morgan.  That’s better than any other fixed income or equity category, whether in emerging or developed markets. Total 2012 returns could be as much as 12 percent, JPM reckons.

Debt denominated in emerging currencies has done less well . Still, the main index for local debt, JPM’s GBI-EM index, has  racked up a very respectable 7.6 percent return year-to-date in dollar terms, rebounding from a fall to near zero at the start of June.  Take a look at the following graphic which shows EMBIG returns on top:

Fund flows to emerging fixed income have been robust. EPFR Global says the sector took in  $16.2 billion year to date.  JPM, which tracks a broader investor set including Japanese investment trusts, estimates the total at $43 billion, not far off its forecast of $50-60 billion for the whole of 2012.

Emerging bond defaults on the rise, no surprise

As may be expected, the crisis has increased the risk of default by emerging market borrowers. According to estimates by ING Bank’s emerging bond guru David Spegel, the default rate on EM bonds is running at over $6 billion in the first four months of 2012, already surpassing the 2011 total of $4.3 billion. He  predicts another $1.3 billion of emerging defaults to come this year.

Spegel expects the default rate for speculative grade emerging corporates to rise to 3.25 percent by September, up from 3 percent at present.  That doesn’t look too bad, given defaults ran at 13 percent after the 2008 crisis and hit a record of over 30 percent in the 2001-2003 period. But ING data shows some $120 billion worth of corporate bonds trading at “distressed” or “stressed” levels, i.e. at spreads upwards of 700 basis points. The longer such wide spreads persist, the higher the probability of default. A worst case scenario  would see a 12.9 percent default rate by end-2012, Spegel says.

Many companies are having trouble rolling over maturing bonds (selling debt to pay off existing creditors). One reason might be the explosion in bond issuance this year. Data from Bank of America/Merrill Lynch shows bond sales by emerging borrowers, sovereign and corporate, totalled 14 billion in the first three months of the year, a quarter more than the same 2011 period.  Clearly everyone is rushing to raise cash before U.S. Treasury yields rise further. (see what we wrote on this a few months ago)

Yield-hungry tilt to equity from credit

For income-focused investors, the choice between stocks and corporate bonds has been a no-brainer in recent years. In a volatile world, corporate debt tends to be less sensitive to market gyrations and also has offered better yields – last year non-financial European corporate bonds provided a yield pickup of  73 basis points above stocks, Morgan Stanley calculates.

But, long a fan of credit over equity, MS reckons the picture may now be changing and points out that European equities are offering better yields than credit for the first time in over a decade. (The graphic below compares dividend yields on non-financial euro STOXX index with the IBOXX European non-financial corporate bond index. The former narrowly wins.)

The extra yield available on equities, coupled with perceptions of a more stable macro backdrop, may encourage income-oriented investors back into stocks.

from Jeremy Gaunt:

And the investor survey says…

Reuters asset allocation polls for August are out. They show very little change from July, which suggests investors are still cautious and uncertain about what is happening.

One big difference, month-on-month, was a large jump into investment grade corporate debt.  Andrew Milligan of Standard Life Investments reckons this  may in part  have been because  sovereign debt rallied so much over summer that returns from government bonds are now too meagre.

Here is the big picture:

Poll