Tuesday March 15

US stocks put in another mixed performance ahead of the Fed’s meeting tomorrow. The S&P500 fell 0.2% to 2,015 and the Dow Jones rose 0.1% to 17,251. Oil prices fell and the renminbi daily fix was set weaker, which were sources of concern on the day. The emerging market rally eased as the dollar strengthened against both developed and developing country currencies. Other negative news came from Japan, where it was reported that the BoJ was expecting to downgrade growth forecasts. The yen fell 0.6% on the day to Y113.09 and the euro was flat at $1.1107. The British pound fell 1% to $1.4152 as the possibility for a Brexit increases. The dollar rose 2.6%, 2.8%, and 1.7% against the rand, real and the rouble respectively. This reflects a risk off attitude in markets. Similarly Brent prices fell 2% to $38.74 and WTI also fell 2% to $36.44. The 10 year Treasury yield rose 1 basis point to 1.97%.

The ECB’s upcoming purchases of corporate bonds may lead to distortions in the bond market. Companies in Europe have been able to issue debt at increasingly low yields as a result of the significant demand for Eurozone corporate bonds. For example last week a German bank issued a 500mm euro bond at a -0.16% yield, which was the first time a private sector issuer was able to sell bonds priced with a negative yield. Several analysts such as the CIO for European credit at Allianz has said that this could lead to price distortions with prices that are “disconnected from fundamentals.” To reflect this spreads on Eurozone investment grade bonds have tightened from 91 basis points to 75 basis points and CDS spreads have also tightened. The ECB’s demand may therefore mask underlying credit fundamentals and indicators. It remains to be seen which bonds will be included in the ECB’s purchases as the clues of “non-bank corporations established in the euro area” can be interpreted in different ways. In the meantime traders will do their best to anticipate which bonds meet that criteria in order to better capitalize when the purchases do occur.

Investors who invested in emerging market debt denominated in local currencies in recent years have been burned as a result of currency risks. These bonds were attractive when emerging market currencies were stable as they offered yields that were not available in developed markets. The first hit to this position was the taper tantrum in 2013 when investors took moey out of emerging markets when they expected yields to rise in the US. Over the last year emerging market currencies have taken a hit as commodity prices have fallen and growth in the global economy has slowed. This has resulted in losses for bondholders. The JP Morgan emerging market local currency bond index soared in the years following the financial crisis however over the last two years has fallen significantly. Between 2012 and 2013 investors allocated $35bn into these assets. Last year investors withdrew $13bn from these positions and outflows this year have totaled $3.5bn already. Over the last few years emerging market currencies are down between 20% and 50% which has eroded into coupon payments and price returns.

Valeant Pharmaceuticals issued very negative earnings guidance and even warned of a potential default which sent the company’s stock price down by more than 51% today. Investors and analysts have been questioning the company’s accounting methods. In August Valeant traded at $262 however today the price closed at $33.51. The company is known for buying smaller drug companies and raising prices. Bill Ackman is expected to have lost $1bn off of his holdings in Valeant. The company is also facing political headwinds, with Hilary Clinton speaking against the business strategy, as well an investigation from the Justice Department into pricing practices. The 2015 10K is already two weeks overdue, and lenders may accelerate repayments if it is not filed by April 29th. Bondholders may do the same if it is not filed by the middle of May. Valeant’s bonds showed signs of pressure today, with one issue falling 13% to 76 cents on the dollar. CDS spreads also rose.

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Tuesday March 15

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