Yield direction and volatility
Yields marched higher last week as the market reacted to comments made by US Federal Reserve Chair, Janet Yellen that interest rates in the US could rise as soon as early next year. Following the Federal Open Market Committee meeting, where there was a further $10bn taper to $55bn a month, Yellen said the bond purchasing program could end this autumn in the US (September this year). This sent yields higher as the 5 year and 10 year benchmark swap rates gained 6-7 basis points (bps) to close the week out at 3.75% and 4.48% respectively. Furthermore there was an 11bps upward move across both the 5 and 10 year Commonwealth government yields to finish the week at 3.49% and 4.16%.
Economic data releases are thin this coming week and markets will be focussed on the Reserve Bank of Australia (RBA) meeting next Tuesday, where expectations are for the cash rate to remain stable at 2.50%. The language included in the statement will be of greater importance as we look for indications as to any bias among the board members. In the US, fourth quarter GDP is to be announced tomorrow night, with expectations of 2.7% growth, up from 2.4% the previous quarter.
Identifying relative value in unrated corporate senior debt
It is worthwhile to occasionally revisit the chart of comparative yields offered on our growing unrated corporate senior debt universe. Figure 1 compares the margins over the risk free rate (swap) on these issues and indicates some interesting opportunities.
Figure 1
Putting aside Payce Consolidated, which contains a different risk profile, Cash Converters and PMP Finance stand out clearly as the cheapest among the group. Furthermore, the G8 floating rate note looks to be marginally cheaper than the fixed coupon bond and carries less risk than the fixed by the nature of its shorter maturity date.
In itself, the Payce Consolidated bond represents value, as the risk inherent should be mitigated later this year when the associated project reaches completion.
In upcoming editions of The WIRE I will be publishing similar comparisons among some of the other segments of our market, and will update these comparisons on a regular basis.
Other credit margins and trading activity
Last week FIIG clients were spoilt for choice as yet another new FRN traded in the secondary market, the Westpac Banking Corporation (WBC) March 2019 line. This follows the prior week which saw the newly issued Insurance Australia Ltd (IAL) March 2019 FRN trade in the secondary market, and less recently the Bendigo and Adelaide January 2019 FRN and FIIG originated G8 Education March 2018 FRN bond, introduced last month. As clients look to lighten their fixed holdings, the WBC March 2019 line was well received, however the IAL FRN March 2019 line remained the most traded for the week with $19.5m in turnover and a whopping 108 trades. All of these FRN lines remain in good supply.
With inflation remaining a topical issue, the inflation linked securities continued to be popular, with $27m in turnover traded across four lines only last week. These included the Envestra August 2025 Inflation Linked Bond (ILB), the Sydney Air November 2030 and November 2020 ILB lines, and in the indexed annuity space (IAB) the MPC Funding December 2033 bond.
Envestra was by far the most actively traded inflation linked asset, possibly spurred on by the credit upgrade to Financial Security Assurance, the company that provides the credit wrapper to Envestra. Standard & Poor’s Ratings Services has raised its outlook and financial strength to the bonds it guarantees.
Clients crystallized their profits, moving out of Envestra and in to other inflation linked offerings over the week. The supply of some lines is beginning to dry up, but the bonds below remain in good supply, priced as an indicative offer yield to maturity.
- MPC Funding December 2033 ILA: 6.10%
- Sydney Airport November 2020 CIB: 6.30%
- Sydney Airport November 2030 CIB: 6.95%
Notes:
Offer levels are indicative as at 25 March 2014 and subject to change based on demand and market movements.
Yields for floating rate notes are estimated as the sum of the swap rate to maturity / call and the trading margin.
Yields for capital indexed bonds and index annuity bonds are estimated as the real yield plus a 2.50% inflation assumption.