It looks like we will end this week with negative excess returns – just barely, as spreads have moved around in a fairly directionless market. Part of the issue, from our perspective, is that the current credit cycle is getting a little long in the tooth. Credit regularly goes through a boom and bust cycle. Corporate debt levels expand (slowly at first, then rapidly as companies face an earnings shock) and contract, while credit spreads tend to follow this cycle. Right now, revenue growth at most companies is lagging earnings growth, and that is precisely the time management teams turn to higher leverage to boost shareholder returns — which will eventually push credit spreads wider. But spreads can move sideways for quite a while, generating solid excess returns. The challenge for credit investors right now is to figure out which horse they’re riding.
It has continued to be a bit of a desert with respect to new issue. We had another light week, with just about $12 billion in supply. Following earnings releases, a few banks came to market – Wells Fargo brought $3.5 billion of 5s and 30s, Citigroup did $2 billion of a senior unsecured 10 year, while Bank of Nova Scotia and Suntrust were both in the market with 5 year deals. The Wells Fargo 5 year was probably the star of the week – the deal was well oversubscribed, priced at a spread of 85bps to Treasuries, and is trading about 10 tighter. The Citigroup deal is the laggard for the week, trading a few basis points wider.
It looks like things will pick up a little next week. The market is expecting about $20 billion in supply, which would certainly feel closer to normal. That will be nice…but we don’t expect it will do anything to help us figure out the name of the horse we’re on.