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Primary sources count when so much of hybrid market is ancient history

A resurgence in corporate hybrid issuance has highlighted another problem with life after ECB bond buying

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Corporate hybrids are back in Europe after a woeful performance last year. This brave new world of high yielding issuance has shown how unsuitable secondary curves have become in calculating fair value in a time of market transition.

EDP and Iberdrola drew €13.4bn of combined demand for their €1bn hybrid deals this week, while Enel drummed up about €15bn for a dual tranche trade a week earlier. Clearly, investors are eager to snap up lower rated paper from investment grade issuers.

What stood out most from the deals, alongside the bulging order books, was how much the yield moved during bookbuilding. EDP’s trade tightened by 80bp on a yield basis, while Iberdrola’s moved in by 87.5bp a few days later.

So why are deals starting so wide of where investors are willing to buy them? Some blame shoddy syndicates — but that is unfair, given the market dynamics at play.

Rising rates and market volatility deterred issuers from bringing deals for much of last year. Meanwhile, secondary market liquidity dried up with the bonds held by those with little intention of selling.

That put pricing references out of date.

That has forced this year’s issuers to start far wider than secondary market marks imply for fair value and hope that investors agree.

There is a risk that if investors will not and that pricing could get stuck at the wide initial levels, as happened numerous times last year when deals got stuck at initial pricing.

Pricing finesse has given way to the necessity of pricing the deals at all.

The hybrid market is being repriced in real time, new issue by new issue. But it is a fact of life for a market that was distorted for so long by easy monetary policy and central bank bond buying.

That may make it harder to be assured of perfect pricing for now but is a necessary step towards normal, functioning bond markets.