Monday 21 May 2018 by Asmita Kulkarni Week in review

From the trading desk

Next Fed rate rise priced in for the June meeting, QBE subordinated notes the USD standout, and Virgin’s USD high yield debt look attractive after new AUD issuance. Investors switch out of high yield and into BoQ, Challenger and IAG. The Praeco bond offers standout relative value, and the new Aroundtown 2025 AUD bond a popular choice

What’s trading

AUD

  • Investors continue to diversify their portfolios and allocate a greater percentage to investment grade rated bonds throughout the week. Many investors exited on strong capital appreciation on their AUD high yield positions; popular bonds being switched into were:
    • BOQ-BBSW+1.85%-01May23c at an indicative YTW of 4.10%pa
    • Challenger-BBSW+2.10%-24Nov22c at an indicative YTW of 4.05%pa
    • IAG-BBSW+2.10%-15Jun24c at an indicative YTW of 4.33%pa
  • Praeco, a special purpose vehicle contracted to build and maintain the headquarters for the Defence Department located just outside Canberra, has been a popular trade throughout the week. At just over two years until maturity, the bond offers standout relative value with investors currently able to purchase the bond at an indicative YTW of 4.07%pa
  • Aroundtown SA, a real estate company focused on income generating quality properties primarily in Germany and The Netherlands, recently issued an AUD250m 4.50% 14 May 2025 senior secured noterated “BBB+” by S&P. This was popular among investors who were looking to increase investment grade holdings. Supply still remains, but we expect it to dry up soon. Investors can currently buy this bond at an indicative YTW of 4.42%pa.

Non AUD

  • QBE Insurance Group (QBE) rated BBB- was the best relative value USD bond last week, which saw increased demand for the 5.875% fixed rate, subordinated notes. The bonds have experienced a marked price drop in recent months, dragged down by higher yields and an underperforming USD hybrid sector. Cheaper offers caught the clients’ eye looking to diversify away from the high yield space in favour of the investment grade QBE. The bonds are callable in June 2026 and have a legal final maturity in 2046. Supply is currently available in minimum parcels of USD200,000 to wholesale investors at an indicative yield of 5.50%pa
  • Virgin Australia’s USD denominated high yield debt was in demand after the company announced a new $150m 8.25% 5 year AUD issue. Virgin’s USD 8.50% fixed rate 2019 senior bond offered attractive relative value of a 6.02%pa yield for the remaining 18 months until maturity. The Virgin 2019 bond is still in good supply and available to wholesale clients in minimum parcels of USD10,000

Economic wrap

In a fairly light data week, US retail sales garnered a lot of attention from the market. Headline retail sales rose in line with consensus expectation at 0.3% in April bringing the annual rise to 4.7%. However, underlying retail sales (excluding auto/gas) missed at 0.3% with the consensus at 0.4%. Nevertheless, investors focussed on the potential for the Federal Reserve to deliver three more rate hikes this year with the next rate rise priced in for the June 2018 meeting.

In Australia, the Australian Bureau of Statistics reported that the unemployment rate ticked up slightly to 5.6% despite a solid gain in employment as the participation rate nudged up to 65.6%. Employment increased by 22,600 in April, coming in above consensus expectation.

Other news – AUD high yield available

We think portfolios should have a certain exposure to high yield bonds to generate risk adjusted returns and we make these opportunities available to clients when a valuable opportunity to add or switch exposure to certain names in a portfolio becomes available

One example is Virgin Australia (VAH) and its recent 5 year AUD, senior unsecured issuance that was met with very high investor demand. The VAH AUD bond has a fixed coupon of 8.25% and matures in May 2023. VAH has the option to call the bond in May 2021 at 104.125 and in May 2022 at 102.063.

For those investors keen on the name and do not mind currency exposure, we see good value in VAH’s 2019 and 2021 USD bonds, both with an Outperform recommendation by FIIG Research. We prefer the 2019 USD bonds in the capital stack for their shorter duration and the relatively good earnings visibility over the next 18 months until maturity of these bonds.

The 8.50% November 2019 bond is available a yield to worst of 6.02%pa and the 7.875% October 2021 bond is yielding around 7.03%pa at current levels. Factsheet links are attached above.