“We’re all busy becoming experts on coronavirus very quickly,” said one EM investor in London. “But in terms of actual activity in the secondary markets, there isn’t a lot going on. Bond prices are being marked down, but the selling is actually very minimal. The market is undoubtedly weaker in terms of general risk appetite but we’re not at panic stations.”
Within the emerging markets, investment grade bonds have moved 7bp-8bp wider in the last day and higher risk paper around 10bp wider, according to a syndicate official in London. Sub-Saharan Africa bonds have been the worst hit, according to the investor, but he said he believed that this was because they outperformed the market earlier this year.
The investor said that much of the stability is “partly because liquidity is just not there”.
“I think most people would like to trim a little bit — in particular everyone’s trying to rotate out of high yield into investment grade — but not so desperately that they’ll offload at any price,” he said.
The high cash inflows into EM bond funds and good performance so far in the asset class are helping to buffer trading levels, but the EM syndicate official said he is keeping a close eye on those flow numbers as outflows could signal trouble for the asset class. However, the investor said the outflows would need to be significant to become a problem.
“The technical picture is what’s important,” said the investor. “We’ve started the year with a lot of cash and most of us are still long cash. Because of that we can absorb shocks and even some moderate outflows without becoming forced sellers. We would need to see fairly large outflows for there to be panic.”
The week ending February 19 saw another $18bn flow into EPFR-tracked bond funds, said EPFR Global. That lifts their year-to-date total within striking distance of the $160bn mark.
“Global bond funds recorded their second largest weekly inflow since the beginning of 3Q19, US Bond Funds posted their 59th consecutive inflow and both Emerging Markets and Europe Bond Funds chalked up their ninth inflow in the past 10 weeks,” said EPFR Global.
The investor predicted that the effect of the virus would grow worse before it got better and that most market participants are now braced for a U-shaped rather than V-shaped recovery. But he added that even if the situation worsens, he could see a scenario where EM bond trading was supported regardless.
“It there are more cases of coronavirus is that really a reason to sell EM risk?” he said. “If global growth slows, central banks will have to step in to support, rates get cut again and the sphere of negative yielding bonds grows. Then EM bonds look attractive because of their positive yields. I think most of the people selling EM bonds at this point are EM tourists who jumped in late to the party.”
Primary stalls
“The perception is that when you announce a deal you want to print,” he said. “If you announce in volatile market, it sends the signal that you really need to raise this money.”
He added that while the private placement market would offer opportunities away from the publicity of selling a benchmark, it is similarly quiet.
“The problem with the private placement market at the moment is illiquidity,” he said. “In a volatile environment people want to know they can get out of a trade if they need to.”