CreditSights: The Week In Credit
At the end of the day, September did end up delivering a good dollop of supply and the month proved to be the volume high of the third quarter. Investment-grade issuance was $39.4 billion but the touted "$50 billion" of supply was exceeded only if one takes into account the $14.6 billion of high-yield supply. This brings total fixed-rate corporate issuance for the third quarter to $121.5 billion, a far higher volume than the $76.5 billion recorded for the same period last year, but somewhat of a retreat from the pace of the first half. The quarterly average for the first half of the year was closer to $170 billion but we would not make too much of this difference given that a light calendar in the third quarter of the year (which encompasses the summer holiday period) is a long established trend. The sharp drop off in activity during August was worrisome at the time given the violent yield moves being experienced, but the strong September volumes have put paid to the theory of corporates aggressively pre-funding near-term borrowing needs in the first half and ceasing to issue altogether as rates moved higher.
Year-to-date investment grade issuance of $333.7 billion is on track to reach CreditSights' full-year forecast of $430 billion. At this point if we were to adjust our forecast it would be to lower it slightly. Historically, achieving $100 million of investment-grade issuance in the final quarter of the year would not be problematic. However, a recent bias to the issuance of Floating Rate Notes has been notable and the demand for this product is perhaps being met at the expense of fixed-rate deals.
We are also pondering the implications of the heavy volume of high-yield supply this year. There has been $129 billion of junk bond issuance so far in 2003 and while we have not yet reached high water mark status for the sector in terms of volume, with fully three months of the year left to go, it will only take another $20 billion to eclipse the previous record of $144 billion in 1997, the heyday of the speculative grade sector. We have commented many times that demand pulls issuance in this sector and we expect volumes to fade given the prevailing tighter pricing after the market's year-to-date rally, but to the degree that they remained strong in the third quarter, we are giving the view that the traditional interaction of supply and demand in this sector has been impacted by the downdraft of fallen angels since 2000 greater credence. Sectors such as the utilities and power producers which featured prominently in those fallen angel volumes have been active issuers recently and the demand for high yield paper in a sector that otherwise trades at very tight spreads appears to be as much about capturing the repair trade of the sector's credit fundamentals as capturing the overall compression of high beta names. At the margin this could be a long-term boost to high yield volumes (given that the climb back to investment-grade is a lengthy one). Year-to-date issuance in the high-yield power and utility sector is in excess of $14 billion. In 1997 when high-yield volumes were last running this high, annual issuance in this category was lass than $7 billion.
This means that we see little likelihood of spread pressure emanating from the issuance calendar in either the investment grade or high-yield markets, though for different reasons. In high-yield, any drop in demand should just choke off the supply. In high-grade, the net issuance volumes remain manageable. The high-grade complex throws off a lot of cash that can quickly temper exposure if not reinvested, so much so that in a low issuance month such as we saw in August, net supply quickly turns negative. In the final quarter we estimate $60 billion will flow back to investors in the form of fixed rate coupons and redemptions, meaning net issuance will be minimal, with little chance of generating spread pressure.