Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

Credit risk markets remained decoupled between the US and Asia as spreads on US Caa-rated entities continued to defy gravity. The risk-on wave continued to swell through US risk asses on additional positive vaccine news. Combined with a Goldilocks election outcome whereby President Trump loses the election, but Joe Biden does not win a mandate, spreads on the US Caa-rated complex tightened to inside Asia’s HY index for the first time since 2014. Is it time to sell the Caa bull market?  Treasury Secretary Mnuchin’s decision to cancel several underutilized emergency Fed programs at the end of the year may raise expectations for the Fed to expand its asset purchase program or target its purchases more directly along the Treasury curve at its December meeting. We are set-up for disappointment.  Against this background, Asia’s HY Additional Tier 1 underperformed Subordinated and Senior Unsecured securities as near-term global growth concerns outweighed vaccine progress. Most of the underperforming bond were issued over the last three months. This suggests these may have been issued at the top of the market, in spread terms. Amongst Additional Tier 1 bonds, Hong Kong-headquartered banks led advances. <a href="https://www.smartkarma.com/entities/bank-of-east-asia-ltd" target="_blank" data-smartkarma-citation="entities:341:1" rel="noopener">Bank of East Asia's (23 HK)</a> announcement that it would call its 5.5% coupon December-callable AT1 bond aided sentiment. We first recommended that investors overweight this security in mid-February within <a href="https://www.smartkarma.com/insights/bank-of-east-asia-overweight-short-call-at1-on-refinancing-ability" target="_blank" data-smartkarma-citation="insights:36787" rel="noopener">Bank of East Asia: Overweight Short-Call AT1 on Refinancing Ability</a> and recently re-iterated this call within <a href="https://www.smartkarma.com/insights/bank-of-east-asia-buy-the-inefficient-capital-securities" target="_blank" data-smartkarma-citation="insights:42753" rel="noopener">Bank of East Asia: Buy the Inefficient Capital Securities</a>. Victory lap over.Concurrently, Turkish HY Senior Unsecured bank bonds again materially outperformed their global peers following delivery of a more orthodox monetary policy regime. Nonetheless, Turkish bank bonds continue to trade wide of similarly rated entities in other emerging markets.  Given the starting point for a potential Turkish bank bond rally, we anticipate a virus versus vaccine market immunity in Turkish-bank bonds returns over the near term.   Over US$13 billion was raised by financial institutions in USD, Euros and Sterling across the credit continuum. Amongst higher-yield issued securities, the UK Co-operative Bank’s Caa1 rated bond makes India’s <a href="https://www.smartkarma.com/entities/iifl-holdings-ltd" target="_blank" data-smartkarma-citation="entities:20197:1" rel="noopener">IIFL Finance's (IIFL IN)</a> US$-bond look cheap in comparison. However, unlike India where every bank rescue requires a liability moratorium, the Co-operative Bank resolution three years ago was not damaging to the financial system. India’s rescue of <a href="https://www.smartkarma.com/entities/lakshmi-vilas-bank-ltd" target="_blank" data-smartkarma-citation="entities:17552:1" rel="noopener">Lakshmi Vilas Bank (LVB IN)</a> this week is no exception. For our views on this please see: <a href="https://www.smartkarma.com/insights/lakshmi-vilas-bank-dbs-rescue-is-a-wasted-option" target="_blank" data-smartkarma-citation="insights:45471" rel="noopener">Lakshmi Vilas Bank: DBS Rescue Is a Wasted Option</a>.US$-debt issuance should be slowed by the upcoming US holiday on Thursday. We could see a short-lived resurgence in early December and then drift sideways until heavy issuance re-emerges in January.Market Outlook: Over the near term, tension between longer-term optimism from vaccine driven economies and the shorter-term reality of increasing Coronavirus lockdowns are likely to weigh on the market in the coming weeks. Positive vaccine news combined with a goldilocks US election outcome lowers the likelihood of excessive US federal stimulus. This should cap additional upward pressure on US Treasury yields until vision increases on likely H2 ’21 US economic growth, post-vaccine distribution. Reflation remains on hold. This could limit US dollar weakness and limit positive impacts on reflationary beneficiaries such as bank valuations and Emerging Markets (EM) assets.

Credit risk markets remained decoupled between the US and Asia as spreads on US Caa-rated entities continued to defy gravity. The risk-on wave continued to swell through US risk asses on additional positive vaccine news. Combined with a Goldilocks election outcome whereby President Trump loses the election, but Joe Biden does not win a mandate, spreads on the US Caa-rated complex tightened to inside Asia’s HY index for the first time since 2014. Is it time to sell the Caa bull market?  Treasury Secretary Mnuchin’s decision to cancel several underutilized emergency Fed programs at the end of the year may raise expectations for the Fed to expand its asset purchase program or target its purchases more directly along the Treasury curve at its December meeting. We are set-up for disappointment.  Against this background, Asia’s HY Additional Tier 1 underperformed Subordinated and Senior Unsecured securities as near-term global growth concerns outweighed vaccine progress. Most of the underperforming bond were issued over the last three months. This suggests these may have been issued at the top of the market, in spread terms. Amongst Additional Tier 1 bonds, Hong Kong-headquartered banks led advances. Bank of East Asia's (23 HK) announcement that it would call its 5.5% coupon December-callable AT1 bond aided sentiment. We first recommended that investors overweight this security in mid-February within Bank of East Asia: Overweight Short-Call AT1 on Refinancing Ability and recently re-iterated this call within Bank of East Asia: Buy the Inefficient Capital Securities. Victory lap over.Concurrently, Turkish HY Senior Unsecured bank bonds again materially outperformed their global peers following delivery of a more orthodox monetary policy regime. Nonetheless, Turkish bank bonds continue to trade wide of similarly rated entities in other emerging markets.  Given the starting point for a potential Turkish bank bond rally, we anticipate a virus versus vaccine market immunity in Turkish-bank bonds returns over the near term.   Over US$13 billion was raised by financial institutions in USD, Euros and Sterling across the credit continuum. Amongst higher-yield issued securities, the UK Co-operative Bank’s Caa1 rated bond makes India’s IIFL Finance's (IIFL IN) US$-bond look cheap in comparison. However, unlike India where every bank rescue requires a liability moratorium, the Co-operative Bank resolution three years ago was not damaging to the financial system. India’s rescue of Lakshmi Vilas Bank (LVB IN) this week is no exception. For our views on this please see: Lakshmi Vilas Bank: DBS Rescue Is a Wasted Option.US$-debt issuance should be slowed by the upcoming US holiday on Thursday. We could see a short-lived resurgence in early December and then drift sideways until heavy issuance re-emerges in January.Market Outlook: Over the near term, tension between longer-term optimism from vaccine driven economies and the shorter-term reality of increasing Coronavirus lockdowns are likely to weigh on the market in the coming weeks. Positive vaccine news combined with a goldilocks US election outcome lowers the likelihood of excessive US federal stimulus. This should cap additional upward pressure on US Treasury yields until vision increases on likely H2 ’21 US economic growth, post-vaccine distribution. Reflation remains on hold. This could limit US dollar weakness and limit positive impacts on reflationary beneficiaries such as bank valuations and Emerging Markets (EM) assets.

Bank Credit Weekly: Virus Vs. Vaccine: Time to Sell the Caa-Bull?

Silver Point

Thomas J. Monaco

Independent Insight Provider

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*Third Indian Bank Failure In 15 Months: For the third time in 15 months, the Reserve Bank of India (RBI) took over a failing regional bank - announcing that it would limit deposit withdrawals and replace the board of directors at Lakshm Vilas Bank (LVB.IN) due to a "serious deterioration" in its finances. After the failure of Punjab and Maharashtra Co-operative Bank and Yes Bank (YES.IN); and 12 consecutive quarters of posting losses it should come as no surprise that the RBI placed LVB under moratorium through December 16, 2020; and*Not Letting Cash Burn A Hole In Its Pocket: On Novenber 17, 2020, the RBI also announced a draft scheme to merge LVB with DBS Bank India Limited, the 100%-owned subsidiary of DBS Bank Holdings (DBS.SP), which will infuse INR 25 bn into its subsidiary to absorb and recapitalize LVB. This transaction is riddled with problems and will certainly cost DBS far greater than its initial investment.

*Third Indian Bank Failure In 15 Months: For the third time in 15 months, the Reserve Bank of India (RBI) took over a failing regional bank - announcing that it would limit deposit withdrawals and replace the board of directors at Lakshm Vilas Bank (LVB.IN) due to a "serious deterioration" in its finances. After the failure of Punjab and Maharashtra Co-operative Bank and Yes Bank (YES.IN); and 12 consecutive quarters of posting losses it should come as no surprise that the RBI placed LVB under moratorium through December 16, 2020; and*Not Letting Cash Burn A Hole In Its Pocket: On Novenber 17, 2020, the RBI also announced a draft scheme to merge LVB with DBS Bank India Limited, the 100%-owned subsidiary of DBS Bank Holdings (DBS.SP), which will infuse INR 25 bn into its subsidiary to absorb and recapitalize LVB. This transaction is riddled with problems and will certainly cost DBS far greater than its initial investment.  

Thematic (Sector/Industry)

*Yongcheng Coal Default: According to Shanghai Clearing House, Yongcheng Coal and Electricity (YCE) in Henan Province failed to repay a CNY 1 bn (USD 151 mn) short-term bond despite being given the highest rating by one of mainland China’s awful domestic credit ratings agencies; and*Watch Your Banks: The yield on benchmark five-year “AAA” rated mainland Chinese corporates was 3.99% - up over 100 bp from their April 2020 low. Investor flight is pushing financing costs higher and squeezing local corporate funding in a market which is just barely recovering from the COVID-19 pandemic. Concerns remain over higher problem loans as debt service risk is heightened over higher rates, unreliable financial statements and ratings agency reports, and now an inability to refinance public debt with a number of bond sales being canceled. Further, the degradation of corporate bond values is limiting their usage as collateral.

*Yongcheng Coal Default: According to Shanghai Clearing House, Yongcheng Coal and Electricity (YCE) in Henan Province failed to repay a CNY 1 bn (USD 151 mn) short-term bond despite being given the highest rating by one of mainland China’s awful domestic credit ratings agencies; and*Watch Your Banks: The yield on benchmark five-year “AAA” rated mainland Chinese corporates was 3.99% - up over 100 bp from their April 2020 low. Investor flight is pushing financing costs higher and squeezing local corporate funding in a market which is just barely recovering from the COVID-19 pandemic. Concerns remain over higher problem loans as debt service risk is heightened over higher rates, unreliable financial statements and ratings agency reports, and now an inability to refinance public debt with a number of bond sales being canceled. Further, the degradation of corporate bond values is limiting their usage as collateral.

Risk markets rallied on expectations that a meaningful economic restart will be brought forward following news of <a href="https://www.smartkarma.com/entities/pfizer-inc" target="_blank" data-smartkarma-citation="entities:1131:1" rel="noopener">Pfizer's (PFE US)</a> preliminary success rate of 90% in its Coronavirus vaccine trials. Combined with a Goldilocks election outcome whereby President Trump loses the election, but Joe Biden does not win a mandate, Caa rated corporates continued to tighten by more than the Asia High Yield (HY) index and other components of the US HY complex.Following two days of initial euphoria, markets consolidated on news of increased Coronavirus contagion. The growing footprint of Coronavirus related, pre-Christmas, restrictions across Europe and the US may be a headwind for economic growth over the near term.In the rate markets, a sharp jump in US yields early in the week retraced as the week progressed and attracted end-user buying, particularly in Asia. Japanese investors were reported to have been strong buyers of 7- to 10-year Treasuries. One of the developing risks at this point is that the reflation trade does not resurface while federal stimulus is constrained, and near-term economic prospects reduce. A tepid increase in yields could limit the effectiveness of any fresh Fed action. Against this background, almost all Asia-headquartered bonds tightened relative to their benchmark spreads as vaccine progress and US Treasury curve steepening increased prospects for higher net interest margins. Amongst Additional Tier 1 bonds, Thai-headquartered banks led advances as the Bank of Thailand lifted a dividend ban and stated that the financial institutions have sufficient capital and loan-loss provisions to withstand the impact of COVID-19. This sounds like cheer-leading and we are tempted to fade this rally. Concurrently, Turkish HY Senior Unsecured bank bonds materially outperformed their global peers in anticipation of more orthodox monetary and economic policies. Given the starting point for a potential Turkish bank bond rally, we may see higher returns from Turkish- as opposed to Thai-bank bonds.In the debt capital markets, over US$30 billion was raised by financial institutions in USD, Euros and Sterling across the credit continuum. When we noted last week that issuers were likely to bring 2021 issuance needs forward, we did not anticipate a flood like this. In what may have been the busiest bank bond issuance week of the year, the amount issued was almost one-half the amount brought in the prior eight weeks.Market Outlook: Over the near term, positive vaccine news combined with a goldilocks US election outcome lowers the likelihood of excessive US federal stimulus. This should cap additional upward pressure on US Treasury yields until vision increases on likely H2 ’21 US economic growth, post-vaccine distribution. Reflation remains on hold. This could limit US dollar weakness and limit positive impacts on reflationary beneficiaries such as bank valuations and Emerging Markets (EM) assets. Over the medium term, a less expansionary US fiscal policy should reduce upward pressure on U.S. rates and is likely to support yield-seeking, including EM fixed income securities over time.

Risk markets rallied on expectations that a meaningful economic restart will be brought forward following news of Pfizer's (PFE US) preliminary success rate of 90% in its Coronavirus vaccine trials. Combined with a Goldilocks election outcome whereby President Trump loses the election, but Joe Biden does not win a mandate, Caa rated corporates continued to tighten by more than the Asia High Yield (HY) index and other components of the US HY complex.Following two days of initial euphoria, markets consolidated on news of increased Coronavirus contagion. The growing footprint of Coronavirus related, pre-Christmas, restrictions across Europe and the US may be a headwind for economic growth over the near term.In the rate markets, a sharp jump in US yields early in the week retraced as the week progressed and attracted end-user buying, particularly in Asia. Japanese investors were reported to have been strong buyers of 7- to 10-year Treasuries. One of the developing risks at this point is that the reflation trade does not resurface while federal stimulus is constrained, and near-term economic prospects reduce. A tepid increase in yields could limit the effectiveness of any fresh Fed action. Against this background, almost all Asia-headquartered bonds tightened relative to their benchmark spreads as vaccine progress and US Treasury curve steepening increased prospects for higher net interest margins. Amongst Additional Tier 1 bonds, Thai-headquartered banks led advances as the Bank of Thailand lifted a dividend ban and stated that the financial institutions have sufficient capital and loan-loss provisions to withstand the impact of COVID-19. This sounds like cheer-leading and we are tempted to fade this rally. Concurrently, Turkish HY Senior Unsecured bank bonds materially outperformed their global peers in anticipation of more orthodox monetary and economic policies. Given the starting point for a potential Turkish bank bond rally, we may see higher returns from Turkish- as opposed to Thai-bank bonds.In the debt capital markets, over US$30 billion was raised by financial institutions in USD, Euros and Sterling across the credit continuum. When we noted last week that issuers were likely to bring 2021 issuance needs forward, we did not anticipate a flood like this. In what may have been the busiest bank bond issuance week of the year, the amount issued was almost one-half the amount brought in the prior eight weeks.Market Outlook: Over the near term, positive vaccine news combined with a goldilocks US election outcome lowers the likelihood of excessive US federal stimulus. This should cap additional upward pressure on US Treasury yields until vision increases on likely H2 ’21 US economic growth, post-vaccine distribution. Reflation remains on hold. This could limit US dollar weakness and limit positive impacts on reflationary beneficiaries such as bank valuations and Emerging Markets (EM) assets. Over the medium term, a less expansionary US fiscal policy should reduce upward pressure on U.S. rates and is likely to support yield-seeking, including EM fixed income securities over time.

Bank Credit Weekly: Vaccine Rally, Then Consolidation, Drives Outperformance & Turkey Vs Thai Banks

Executive Summary: A Goldilocks scenario outcome whereby President Trump loses the election, but Joe Biden does not win a mandate led to material US High Yield (HY) index spread tightening, driven by Caa-rated entities.Markets were overpricing a Blue Democratic Party sweep prior to the US election, as we predicted. Now they are overpricing an inhibited tax and regulatory agenda under a Biden Presidency and Republican Senate. The run-off for two Senate seats in Georgia could see Republicans’ lose the Senate. As such, the amount of potential fiscal stimulus under the new administration remains difficult to handicap. Plus, regulatory changes are now largely driven by Executive Orders.In Asia, despite improving Purchasing Managers Index results and an unexpected acceleration in China’s October exports, Asia’s HY market underperformed the US on global economic growth concerns. Increasing Coronavirus cases in Europe and a pre-Christmas lock-down are a headwind for Asia’s export growth and tourism over the near term. Concurrently, Biden’s Coronavirus plan also adds to uncertainty. Furthermore, expectations that Joe Biden may be less confrontational than President Trump with China may prove wrong as the new President would focus on mid-term elections and the need to prove himself where he won narrowly. However, despite these potential negatives, Asia’s HY index looks oversold particularly relative to US Caa-rated index levels.The suspension of Ant Financial’s (<a href="https://www.smartkarma.com/entities/ant-financial-services-group" target="_blank" data-smartkarma-citation="entities:24240:1" rel="noopener">Ant Group (6688 HK)</a> )initial public offering (IPO) in China and Hong Kong also negatively affected Asia’s risk sentiment and raised serious questions on China’s regulatory due process. <a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC's (HSBA LN)</a> shares sold-off following the Ant Financial announcement despite the firm not waiving interest charges on margin borrowing for the suspended IPO. With a China-centric growth strategy, HSBC’s business model is increasingly caught in the middle of a developing bi-polar world.Nonetheless, never missing an opportunity to test the market, HSBC Holdings was the only financial institution to issue debt in the global capital markets this week. We assess the attractiveness of these Euro-denominated bonds within. In Asia, primary US$-bond sales plunged to just US$0.9b from US$6.8 billion in the prior week as borrowers awaited the U.S presidential election outcome. With interest rates diving lower, we anticipate additional issuance over the next few weeks as issuers fill 2021 borrowing needs early.Against this background, Asia’s lower duration Senior Unsecured bonds outperformed Tier 2 and Additional Tier 1 securities, in concert with concerns surrounding global economic growth potential over the near term. The top performing and underperforming bonds were short- and long-duration in nature, respectively.  Market Outlook: A less expansionary US fiscal policy should reduce upward pressure on U.S. rates and is likely to support yield-seeking, including Emerging Markets (EM) fixed income securities over time. In the near term, risk asset and bank valuations may remain volatile through the year-end as large levels of cash remain on the sidelines.

Executive Summary: A Goldilocks scenario outcome whereby President Trump loses the election, but Joe Biden does not win a mandate led to material US High Yield (HY) index spread tightening, driven by Caa-rated entities.Markets were overpricing a Blue Democratic Party sweep prior to the US election, as we predicted. Now they are overpricing an inhibited tax and regulatory agenda under a Biden Presidency and Republican Senate. The run-off for two Senate seats in Georgia could see Republicans’ lose the Senate. As such, the amount of potential fiscal stimulus under the new administration remains difficult to handicap. Plus, regulatory changes are now largely driven by Executive Orders.In Asia, despite improving Purchasing Managers Index results and an unexpected acceleration in China’s October exports, Asia’s HY market underperformed the US on global economic growth concerns. Increasing Coronavirus cases in Europe and a pre-Christmas lock-down are a headwind for Asia’s export growth and tourism over the near term. Concurrently, Biden’s Coronavirus plan also adds to uncertainty. Furthermore, expectations that Joe Biden may be less confrontational than President Trump with China may prove wrong as the new President would focus on mid-term elections and the need to prove himself where he won narrowly. However, despite these potential negatives, Asia’s HY index looks oversold particularly relative to US Caa-rated index levels.The suspension of Ant Financial’s (Ant Group (6688 HK) )initial public offering (IPO) in China and Hong Kong also negatively affected Asia’s risk sentiment and raised serious questions on China’s regulatory due process. HSBC's (HSBA LN) shares sold-off following the Ant Financial announcement despite the firm not waiving interest charges on margin borrowing for the suspended IPO. With a China-centric growth strategy, HSBC’s business model is increasingly caught in the middle of a developing bi-polar world.Nonetheless, never missing an opportunity to test the market, HSBC Holdings was the only financial institution to issue debt in the global capital markets this week. We assess the attractiveness of these Euro-denominated bonds within. In Asia, primary US$-bond sales plunged to just US$0.9b from US$6.8 billion in the prior week as borrowers awaited the U.S presidential election outcome. With interest rates diving lower, we anticipate additional issuance over the next few weeks as issuers fill 2021 borrowing needs early.Against this background, Asia’s lower duration Senior Unsecured bonds outperformed Tier 2 and Additional Tier 1 securities, in concert with concerns surrounding global economic growth potential over the near term. The top performing and underperforming bonds were short- and long-duration in nature, respectively.  Market Outlook: A less expansionary US fiscal policy should reduce upward pressure on U.S. rates and is likely to support yield-seeking, including Emerging Markets (EM) fixed income securities over time. In the near term, risk asset and bank valuations may remain volatile through the year-end as large levels of cash remain on the sidelines.

Bank Credit Weekly: Election Goldilocks Priced-In as Growth Concerns Increase

Hong Kong

The Bank of East Asia, Limited and its subsidiaries provide general banking, related financial, business corporate, and investor services.

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Bank of East Asia (23 HK)

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MAINLAND CHINA DEFAULT: Yongcheng Coal Defaulted On Its Debt, Leading To Concerns About The Credibility Of AAA Rated Corporates In Mainland China...

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Bank Credit Weekly: Vaccine Rally, Then Consolidation, Drives Outperformance & Turkey Vs Thai Banks

Positive vaccine news and the US election result lowers the likelihood of excessive US stimulus. This should cap pressure on Treasury yields and...

Hank Calenti, CFA

Bank Credit Weekly: Election Goldilocks Priced-In as Growth Concerns Increase

A Goldilocks outcome resulted in excessive Caa-spread tightening. Markets are now overpricing an inhibited regulatory and China agenda. Asia’s...

Hank Calenti, CFA

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