Wednesday April 22: Housing Data Supports Markets

Stocks rise after housing data. The S&P500 and the Dow both rise 0.5% to 2,107 and 18,038 respectively. In Asia, indexes in Shanghai and Japan rise as a result of accomodative monetary policy from the People’s Bank of China. In the U.S. housing data showed that existing home sales rose to a level not seen since 2013. As a result the dollar rises against its peers and the 10 year yield rises 8 bp to 1.99%. Both of these movements reflect the idea that markets expect the Fed to tighten. So far this earnings season, 80% of companies who have reported have beaten profit expectations. In Europe, the Bank of England minutes showed officials suggesting that markets were underpricing the possibility for monetary tightening. As a result the pound appreciates to $1.5079 and the 10 year yield rises 14 bp to 1.71%.

Emerging market bonds face a tough set of conditions going forward. In recent years, capital inflows and the ability to borrow in U.S. dollars have resulted in high levels of debt issuance. As a result private sector debt in developing countries has been growing. Many companies have borrowed in dollars, as BoAML says that bond issuance in USD by emerging market corporations has grown by 300% since the depths of the crisis. Now, analysts believe that imminent Fed actions, falling commodity prices, and political risks may all culminate to hurt emerging market bonds. For issuers who have borrowed in USD, the heavy appreciation of the dollar adds additional burden to interest and principal payments. The dollar has strengthened 30-50% against most emerging market currencies in the past several months, and this trend may continue once the Fed raises rates. It is generally believes that issuers cannot fully hedge away all currency risks, and therefore are prone to these extreme movements. Brazil and Russia have raised interest rates to prevent outflows and subsequent depreciation against the dollar, however this has negative effects on the rate at which corporations can borrow. In addition, commodities make up between 40 and 80% of exports in many emerging markets, and oil and mining products have struggled heavily recently. Finally political risk is at a high level around the world as a result of social unrest and unsatisfied constituents, for example the protests in Brazil. Many analysts believe that investors are not being compensated for these risks, as emerging market corporate bonds denominated in dollars yield only 4.9%, compared with the high yield U.S. corporate 6% that many believe carries less risk.

Hawkish comments from the Bank of England send the pound to $1.5079. This 0.75% appreciation comes in spite of the strong housing data in the United States. These movements come after comments made in the BoE minutes that state that markets are underestimating interest rate increases once the central bank begins tightening, similar to the position of the U.S. Federal Reserve. Some analysts express surprise that election uncertainty has not put any selling pressure on the pound yet.

Last week a four year old auto finance company called Skopos issued a $149M securitized product of deep subprime auto loans. 20% of the issuance consisted of loans made to borrowers who were in the bottom 6% of borrowers in the U.S. measured by credit score. Another 14% of the loans were made to borrowers who had no credit score. This continues the trend after Santander recently issued a similar product of auto loans that was labeled by some to be “sub-subprime.” The riskiest portion of the security was sold with a yield of 7.8%. This situation further reflects investors’ desperate search for yield in the current global environment.

Wednesday April 22: Housing Data Supports Markets

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