Summary- Extreme market volatility as Italy is put on the line
- SLO standards from Fed published – not as bad as we fearedMarket comment
With Italy now under severe pressure, the stakes have increased substantially as we are talking about the third-largest government debt in the world (after Japan and the US). Italian yields have climbed to unsustainable levels and clearly some sort of aid agreement needs to be put in place quickly.
For banks, the worry relates to the mark to market losses stemming from the plummeting Italian bond prices. One of the reasons that Dexia needed to be taken over by the governments was its holdings of sovereign bonds including a large exposure to Italy. The concerns on the various banking systems will therefore remain and this will put further pressure on banks to deleverage as access to funding is restricted in the current environment. This is not what the European economy needs but as we see it there are limited alternative options for the individual banks.
Furthermore, France came into the spotlight on Thursday as government yields rose to a new euro-era high against Germany. The sell-off accelerated as rumours started to spread that France had lost it triple A rating. It turned out Standard and Poor’s mistakenly had announced to some clients that France had been downgraded. The rating agency later in the day had to deny the downgrade and confirmed the triple A rating and stable outlook for France. However, as there is often no smoke without a fire, the mistake sparked renewed concern about France and its fragile banking sector.
Credit investors are again largely sidelined as visibility is non-existent and basically it is simply a waiting game. The economics are largely irrelevant and currently it is all about politics. As long as this is the case, banks will find primary market access largely impossible.
For corporate credit, we see a different picture and despite the turmoil we have seen a couple of new deals in the market during the week. Performance has not been great but the mere fact that corporate issuance is gathering interest under current market conditions is, in our view, a reflection of the improving status of IG corporate debt in a world where there are not that many safe havens left. As we see it, corporate spreads are therefore likely to remain well supported and the decoupling from financials is likely to persist for a long time.
US lending standards
The easing in lending standards in the US is levelling off but considering the tough quarter in the financial markets it is positive that we do not see a net tightening. US lending standards is a leading indicator for default rates (and therefore for HY spreads in particular). It goes without saying that the US picture differs from Europe where we are seeing an ongoing tightening of lending standards. Going forward, we see a high likelihood that the tightening of European credit standards may accelerate given the strong incentives for banks to shrink their balance sheets (EBA test, Basel III and difficult funding markets).
- Extreme market volatility as Italy is put on the line
- SLO standards from Fed published – not as bad as we fearedMarket comment
With Italy now under severe pressure, the stakes have increased substantially as we are talking about the third-largest government debt in the world (after Japan and the US). Italian yields have climbed to unsustainable levels and clearly some sort of aid agreement needs to be put in place quickly.
For banks, the worry relates to the mark to market losses stemming from the plummeting Italian bond prices. One of the reasons that Dexia needed to be taken over by the governments was its holdings of sovereign bonds including a large exposure to Italy. The concerns on the various banking systems will therefore remain and this will put further pressure on banks to deleverage as access to funding is restricted in the current environment. This is not what the European economy needs but as we see it there are limited alternative options for the individual banks.
Furthermore, France came into the spotlight on Thursday as government yields rose to a new euro-era high against Germany. The sell-off accelerated as rumours started to spread that France had lost it triple A rating. It turned out Standard and Poor’s mistakenly had announced to some clients that France had been downgraded. The rating agency later in the day had to deny the downgrade and confirmed the triple A rating and stable outlook for France. However, as there is often no smoke without a fire, the mistake sparked renewed concern about France and its fragile banking sector.
Credit investors are again largely sidelined as visibility is non-existent and basically it is simply a waiting game. The economics are largely irrelevant and currently it is all about politics. As long as this is the case, banks will find primary market access largely impossible.
For corporate credit, we see a different picture and despite the turmoil we have seen a couple of new deals in the market during the week. Performance has not been great but the mere fact that corporate issuance is gathering interest under current market conditions is, in our view, a reflection of the improving status of IG corporate debt in a world where there are not that many safe havens left. As we see it, corporate spreads are therefore likely to remain well supported and the decoupling from financials is likely to persist for a long time.
US lending standards
The easing in lending standards in the US is levelling off but considering the tough quarter in the financial markets it is positive that we do not see a net tightening. US lending standards is a leading indicator for default rates (and therefore for HY spreads in particular). It goes without saying that the US picture differs from Europe where we are seeing an ongoing tightening of lending standards. Going forward, we see a high likelihood that the tightening of European credit standards may accelerate given the strong incentives for banks to shrink their balance sheets (EBA test, Basel III and difficult funding markets).