Friday February 24

Stocks rose today to finish off the week while the Dow notched its eleventh consecutive day of gains. The S&P 500 rose 0.2% to 2,367 and the Dow Jones added less than 0.1% to 20,821. Over the course of the week the S&P 500 and the Dow were 0.7% and 1% higher respectively. Economic data today showed that new home sales came in a little softer than expected and that consumer sentiment came in in line with anticipations. The KBW Bank index fell 1% as rates continue to rally and the DJ Utility average rose 1.5% for that same reason. Steve Mnuchin said that tax reform won’t be effective until 2018 which is what could be contributing to the partial reversal of the Trump trade especially in fixed income markets. The two year Treasury yield today fell 4bp to 1.15%. The ten year Treasury yield fell 6bp to 2.31%. Those rates were 5 and 11bp lower on the week respectively as it appears that investors are covering short positions in rates. The dollar was mixed on the day against peers. USD rose 0.2% against EUR to $1.056. USD fell 0.4% against JPY to Y112.14 as the yen attracts demand from haven buyers which has also been benefitting Treasuries and bunds. USD rose 0.8% against GBP to $1.2460. Volatility continues in the peso with the dollar rising 1.2% against MXN today to MXN 19.907. Oil prices slid back. WTI lost 0.8% to $54.02. Brent fell 1% to $56.04.

Changes in the leveraged loan trading market has gone some structural changes relating to settlement periods and how frequently products trade. Loans have very unique features such as floating interest rates, negotiable payback periods and borrowers are also able to prevent sales to certain investors. As a result those products don’t trade very frequently. Additionally in that market investors start to receive accrued interest before the trade actually settles, which means that there has been little incentive to bring down settlement periods. However rule changes have limited the amount of money traders can earn if it takes too long to settle trades, which has sped up the process. From 2015 to 2016 the average time it took for a trade to settle went from 19 days to 15 days. Some market participants believe that could be shaved down to 10 days. Trading volume in loans fell after the financial crisis however has since made a comeback and has been hovering around $600bn annually over the last three years. Analysts believe that a reduction in settling periods will bring down settlement capital costs and save investors and banks tens of millions of dollars annually. These changes came on as blockchain technology threatened to automate some of the process however the change was made through rule and incentive changes as opposed to technological improvement.

After selling off immediately in the aftermath of Trump’s election emerging market equities have benefited lately. After the Trump election the MSCI emerging markets stock index dropped as much as 6% however since then it has come roaring back and has recouped its losses and posted 5% gains since November 9th. In November fund flows were negative $2bn but after posting a slight inflow in December fund flows have totaled around $5bn in January and February combined. Stocks initially fell as the dollar strengthened and interest rates in the U.S. rose which makes holding emerging market assets less attractive. Additionally many analysts were of the belief that protectionist policies from the U.S. could harm emerging markets. However since then markets have taken the view that the Trump administration is taking a less harsh stance on trade and currency related issues than it had before which has benefited EM stocks. They have also benefited as investors taper down expectations for the likelihood of Trump’s promised fiscal spending policies. Researchers are suggesting that in light of the meeting Trump had with Shinzo Abe that he may be taking a lighter stance on trade and currency issues. Before the meeting Trump suggested that Japan was using a weak currency opportunistically to benefit its trade position. However in the meeting it seemed to go smoothly and Trump didn’t take a confrontational stance. Similarly comments from Steve Mnuchin also suggest that they are not going to take as strict of a stance on the dollar as was previously expected. As a result the dollar has eased back somewhat which has contributed to driving EM stocks higher. Stable oil prices and stable growth in China is also propping up emerging markets after being big sources of concern last year. Additionally EM stocks are undervalued compared to U.S. markets as the MSCI EM index is trading at just 12x expected earnings.

Viacom issued bonds that offer protections that are reflective of all the political uncertainty going on right now. Trump and his administration have loosely discussed the possibility of getting rid of the tax deductibility of interest payments. That would boost tax revenues and also make it more expensive and less attractive for corporations to borrow. On those concerns Viacom issued $1.3bn in bonds that will allow it to call the bonds at 101 cents against par in the event that tax deductions on interest payments are eliminated. While Viacom is the first company to do so other large reputable borrowers may follow suit given that the demand for credit is strong. Since investors want corporate bonds right now companies may be able to get that kind of protection for relatively cheap. As an indication of how high the demand for corporate credit is the underwriters received $13bn in orders for a $650mm issuance. They were 40 year maturities and callable in 10 years and they carried a yield of 6.25%. Debt issuance would also drop off fairly significantly if interest payments were no longer tax deductible. It could be hard to gauge however how this particular clause was received since the bond issued was a junior subordinated bond and is not really reflective of the wider debt market. This is indicative of broader trends of weakening bondholder protections as investors become more desparate in the search for yield.

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Friday February 24

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