Yes, they have and in a very significant way in 2012 but the disconnect with deteriorating fundamentals would warrant caution in 2013 and the need for clear selective bond picking based on assessing properly issuer by issuers will be even more essential next year.
"We’re tightening up in cash with maximum effect in the high yield and X-Over space, while investment grade credit is edging better every session. Outperformance continues from peripherals. There’s a grab for yield, in what looks like the last hurrah for the year. It won’t be any different in January as we reset the counter, faced with corporate credit spreads tighter and corporate yields lower versus where they are now. We’ll still see much cash needing a home and more than likely a clear tightening dynamic to kick off the year. For now, holders of higher yielding paper who are comfortable with the issuer should not be thinking about selling (booking profits and so on), but adding where they can. Yesterday’s Bord Gais deal was 42bp tighter versus reoffer and had the effect of pulling the ESB 2019 deal with it – as if it needed it. The latter was tighter at around B+315bp having been launched earlier this month at B+371bp, while September’s deal from the ESB (maturity 2017), launched at B+590bp, was bid at B+312bp. With the plethora of deals lined up for next week, it looks like we’re seeing out the year with an upbeat tone and choosing to ignore the inability of the troika to agree a deal on Greece, while US fiscal cliff concerns seem to have abated and even Spain’s woes have been put on the back-burner."
The credit chadburn is clearly still on full ahead. IG returns YTD broke through the 12% barrier in November on a combination of lower bund yields and tighter credit spreads and demands for credit remains elevated, it is clearly due to "Yield Famine".
As Societe Generale put it in a recent note:
"The grind is relentless: There’s no mercy for those under-invested at the moment. Secondary market liquidity is very poor and the new issues are so oversubscribed that only the chosen few are getting anywhere near average or above average allocations. Corporate credit continues to grind tighter, pushing IG returns YTD to over 12% and HY to 20% (iBoxx index). The volatility from headlines/macro/elections is impacting equities and the iTraxx indices, but cash credit retains its lustre. This has been the story for much of 2012, and will be for 2013 as well. Spreads have fallen by 50% this year, and while we don’t think they will by as much next year, another 25-30% is feasible. For now, frustrated investors are generally looking to add, but the new issue market is the best route to get some paper on board. Issues are 4-7x oversubscribed and performing on the break in most cases. We look for the whole dynamic to stay intact into year-end." - source Societe Generale.
We are witnessing the "Japonification" of the European Credit Markets which we touched on in our July conversation "Yield Famine".
Below are some key points highlighted by BNP Paribas relating to investor views and summarizing the views of several (fixed income focused) hedge funds, asset managers and private banks they have visited recently, eerily reminiscent of the 2005/2006 market context before the credit bubble burst:
"- Most had a very good performance and intend to protect their performance (have reduced exposure recently).
-“Search for yield” demand applies to everyone. The focus was on hybrid corporate bonds, Financials, high yield bonds, EM and ABS instruments.
- Some were eyeing an exit from high grade credits. The yield of non-fins iBoxx index is now below 2% and this isn’t enough for some institutional investors.
- There was appetite brewing for high yield, EM and illiquid credits to capture more yield.
- Even the most skeptical are “no longer negative on Europe”
- Consensus view was to “buy on dips”, which according to one HF could trigger a rally (with nobody to sell it)
- One investor thought the ITRX Main could trade at 50-60bp next year (currently 130) given a decrease of volatility and shortage of assets.
- There is strong appetite for EM bonds from private banks in particular.
- No one was active in sovereign CDS anymore."
As far as fixed income allocation is concerned, it has been the big winner in 2012 as indicated by CreditSights recent note on the 21st of November on Euro Investment Funds entitled - No Stocks, Just Long Bonds:
"As part of that stretch for yield, investment funds' purchases of bonds have also been overwhelmingly in longer-dated instruments. Over the four quarters to 3Q12, net allocations to short-dated bonds have been zero; all €168 bn in net allocations to bonds were to two-year-plus instruments." - source CreditSights
"We believe the biggest risk is indeed not coming from the "Fiscal Cliff" but in fact from the "Profits Cliff". The increase productivity efforts which led to employment reduction following the financial crisis means that companies overall have reached in the US what we would call "Peak Margins". In that context they remain extremely sensitive to revised guidance and earnings outlook as we moved towards 2013." - Macronomics - The Omnipotence Paradox.
"The bank systems of Spain, Italy, Portugal, Ireland and Greece collectively borrowed a record 865 billion euros (gross) from the ECB in June 2012, 250% more than a year earlier. Since the commitment from Mario Draghi to "do whatever it takes," lower and more stable yields and a gradual opening of wholesale markets should afford banks the ability to reduce ECB reliance."
2013 could be a story of lower yields, lower volatility and lower ECB reliance. 2011 was dominated by capital shortfalls for banks leading to liability management exercises (bond tenders, debt to equity swap, skip of calls for Lower Tier 2 bonds, and other interesting exercises we discussed at length in numerous conversations) in conjunction with the dearth of liquidity (issues with dollar funding) leading to the ECB saving the day by providing cheap funding via the LTROs. 2013will also be a story for banks of additional deleveraging and restructuring of some of their activities. For instance structured finance was a big victim in 2012, and we discussed the impact it had on shipping in our conversation - "Shipping is a leading credit indicator" - A follow up - April 2012.
The current European bond picture with slightly lower Spanish 10 year government bond yields at 5.68% this week and Italian 10 year government bond yields at 4.77% with somewhat rising Core European Government bond yields - source Bloomberg:
The relationship between the Eurostoxx volatility and the Itraxx Crossover 5 year index (European High Yield gauge) - source Bloomberg:
Although default rates have remained low in 2012 as indicated by the below graph from Societe Generale, when it comes to anticipating default risks, credit spreads should indeed be your danger sign in 2013:
While credit yields are indeed heading towards 2% as shown by Societe Generale Cross Asset Research:
On a final note, the US is set to return as Japan's top export buyer as indicated by Bloomberg: