CreditSights: The Week In Credit
Corporates opened soft with the equity market early in the week, and up only three-five basis points wider overall with higher beta names bearing the brunt of the widening. It seems as though the Street is particularly heavy having gotten hit with paper off bid lists in recent weeks and from some customer flipping of new deals on the break. Investors seem content to sit on the sidelines so far, although price action suggests that there is still plenty of money to be put to work. Corporates seem to be back in the win/win situation of 2001--when equity markets are strong they tighten on positive sentiment; and when equity markets are weak, damage is mitigated by funds flows into fixed income. The interesting wildcard this time around compared to 2001 is the dollar. While the dollar remained relatively strong in trade-weighted terms in 2001, there's been a big decline thus far in 2003 and comments by Treasury Secretary Snow over the weekend further spooked foreign exchange markets last Wednesday. In our work modeling foreign purchases of corporates, we've shown that foreign purchases of U.S. corporates tend to weaken as the dollar itself weakens. Given the strong reception to a huge U.S. primary market calendar in recent months, it's difficult to believe that there's been a wholesale pullout of foreign investors. In addition, the relationship between foreign purchases and excess returns of corporates is not statistically significant partly, we suspect, because domestic flows may more than compensate for any margin reduction from overseas. Nevertheless, it is a trend worth watching as the U.S. must continue to rely on foreign savings to fund its huge current account deficit.
Another $10 billion in investment-grade corporates priced during the week ended May 22 bringing the full year total to close to $220 billion or roughly $45 billion per month. Corporates rushed to take advantage of low absolute borrowing rates, particularly at the long end. In each of the last three weeks the weighted average maturity of debt issued was longer than 10 years as companies look to lock in rates. Notable borrowers on the week include 10s and 30s for Johnson & Johnson (total $1 billion), fives and 10s for Georgia Pacific (total $500 million), and a two-tranche deal for Centerpoint Energy. The high-yield market also continues to price deals aggressively. Rhodia, an international diversified specialty chemicals company, priced a multi-tranche, multi-currency transaction that met with very strong demand and printed well inside the original price indications. And, in a sign of the further rise from the dead of the power sector, El Paso Production priced a $1.2 billion 10-year deal that was a blowout. Investors definitely appear to have money to put to work and strong appetite even for cuspy credits.
Meanwhile, fundamentals continue to point to potential risks down the road for the corporate sector. With concerns around the D word (deflation) rising in recent weeks, all attention turned to Federal Reserve Chairman Greenspan's testimony to the Joint Economic Committee in Congress last Tuesday for both his views on the subject and his strategy to address the issue going forward. April inflation numbers headed into negative territory on a MoM basis as the drop in energy prices pushed down both CPI and PPI. PPI was negative month-over-month even ex-Food and Energy though, reflecting lower prices paid to producers for autos, clothing and even capital goods. Despite the softness in the data, Greenspan pushed hard to reassure both Congress and the markets that the U.S. was not about to head down Japan's way, but that although the risk of deflation was minor, the Fed was going to keep close track and act when appropriate. The International Monetary Fund has also said in a recent report that the chances of sustained deflation in the U.S. are unlikely. Next month's readings, which will not be dominated by the overwhelming effect of lower oil prices will offer a more balanced assessment of price trends, particularly given that crude is back in the $28-30 per barrel range.
