Concern is rising among bankers and issuers that rising US Treasury (UST) yields will pour cold water over the currently favourable debt capital markets.
The 10-year US Treasury yield rose to its highest level since May to 1.9% as Asiamoney PLUS went to press, according to Bloomberg data.
That is prompting issuers to tap the market sooner rather than later, raising expectations that issuers will target US dollar-denominated deals heavily for this month as issuers try to take advantage of the current Treasury yields before it rises even further.
“The risk of USTs selling off is clearly a risk for credit markets,” according to a fixed income strategist. “It will affect current prospects for total returns for investors, [and] it will also affect issuers’ cost of borrowing.”
To prevent the erosion in credit spreads, issuers have been tapping the market earlier to take advantage of lower Treasury yields.
“Many of the issuers are rushing to the market. Some are driven by this concern of rising rates and the markets being shut down sometime later, that rates will go up too quickly and investors may back off from the market,” according to a senior debt banker based in Singapore. “That’s a real risk that people are going into, that people are factoring in, which accounts for the rush especially for [names in] the Chinese property markets. Is there are a cause of concern? Yes.”
A treasury official at a Korean bank that is a frequent player in the debt markets also acknowledged this concern of rising interest rates.
“Banks are suggesting that we print sooner rather than later because the market is really good right now, liquidity is good and there’s a lot of supply in the pipeline,” said the official. “We’ve been hearing from our market sources that yields may normalise and that will affect zero interest rate policy as we see improvements in economic indicators in the US and China.”
A wave of high yield and investment grade issuers have come to the market to take advantage of low rates and abundant liquidity in the past few days. South Korea’s Kookmin Bank printed a US$300 million 3-year bond at 105 basis points over three-year US Treasuries on January 8, which is the tightest spread for a non-sub sovereign Asian bank on record. Hysan Development Co. Ltd is following other Chinese property developers such as Country Garden and Kaisa into the US dollar-denominated bond market, according to bankers.
Although widening spreads may serve as a point of concern for some issuers, they may actually serve as a positive for investors since it increases the total returns.
“Issuers need to understand that the rise in yields is to some extent welcoming news because otherwise it’s just going to kill the market,” said another head of debt capital markets in Hong Kong. “The yields are just so low that with a spreads continuing to compress, there’s no more room and there won’t be any more buyers at such tight yields. You need to offer decent pickup.”
Even if Treasury yields continue to rise, the rate levels will still be “extremely favourable” for issuers to tap the market, the banker added. Other investors agree.
“Investment grade [debt] has a larger rate component. I don’t think that yields will go up fast because growth is recovering but it is generally very moderate,” according to Rajeev De Mello, head of Asia fixed income at Schroders. “And central banks are committed to keeping policy rates close to zero so that will always create a demand for government bonds and others as well.”
The 10-year US Treasury yield has risen 33 basis points since December 3.
“Thirty basis points that we got is actually quite small when one looks at the overall scheme of things and yields involve much more than that,” said De Mello.
HSBC currently estimates that yields will reach 1.8% by the end of the year, and Barclays expects it to hit 1.6% for the same period. It also sees yields reaching 1.8% by the end of the first quarter. Societe Generale will lower its previous forecast of 2%.
“As long as US Treasury yields do not sell off much, we think the current spread levels in Asian credit still provide adequate cushion,” said Krishna Hegde, head of credit research at Barclays. “While spread levels currently are much tighter than over the last few years, in the context of the volatility seen, with the Barclays EM Asia USD Credit index providing a spread of 227 basis points, we believe the buffer is sufficient.”
De Mello added that rising yields may not be strong enough to deter companies from tapping the bond market going further.
“I don’t think that a small backup in yields or spreads will change the case for companies,” said De Mello. “I think some of them do opportunistically borrow, when yields are very low but other ones will borrow when they need the money to expand. And if they see the economy turning and opportunities for them to invest that will encourage them to come to the market as well even if they have to pay 20-30 basis points more.”