Christmas arrived a little early in the credit markets. Spreads have been grinding in for most of the fourth quarter, but over the past week are tighter by a solid 7 or 8 basis points. That may not sound like a lot, but for the whole market to move that much tighter in such a short span of time is pretty extraordinary, and is the biggest weekly move tighter we’ve seen in the past couple of years. The market closed yesterday at a spread of 116, feels like it’s moving tighter again today, and all sectors are participating.
Long credit is having an especially good month. In fact, it’s had a great year. Excess returns in long corporate bonds are 128 basis points this month, and 377 for the year. It looks like the great rotation out of bonds into equities is not happening on the long end. If anything, it’s the other way around, driven by pension funds. They started the year underfunded, and given the move in rates and equities, we’re guessing many are now close to fully funded, which allows them to de-risk. That means selling equities, and buying long bonds, including investment grade credit.
There are also some good fundamentals underpinning the move in credit. Stronger economic growth, a rebound in housing, and a masterfully orchestrated taper announcement from the Fed all contributed to the positive sentiment. We’ve had a modestly-more-benign-than-expected announcement regarding the Volcker rule, at least around dealer market-making. There was some concern that corporate bonds would face another decline in liquidity depending upon what restrictions were placed on dealers under Volcker, and so the market is breathing a sigh of relief on that front. Finally, with the new issue market shut down for the rest of the year, and virtually no supply this week, there has been little paper to buy if one did feel like going long credit all of a sudden.
All of these factors have contributed to a downright jolly party in credit. No one feels like playing Scrooge at this bash, everyone just wants to belly up to the eggnog punch bowl. So raise a glass to toast a great year in credit….and let’s hope we don’t all have a massive headache on January 2nd…