It should come as no surprise that Q1 was a banner quarter for corporate debt issuance as struggling oil producers tapped HY markets to stay afloat, companies scrambled to max out the stock-buyback-via-balance-sheet re-leveraging play before a certain “diminutive” superwoman in the Eccles Building decides to do the unthinkable and actually hike rates, and there was M&A. As we discussed last week, rising stock prices have tipped investors’ asset allocation towards equities even as money continues to flow into bonds, meaning that yet more money must be funneled into fixed income for rebalancing purposes, which ironically drives demand for the very same debt that US corporates are using to fund the very same buy backs that are driving equity outperformance in the first place. Put more simply: the bubble machine [4] is in hyperdrive.
Not only did Q1 mark a record quarter for issuance, March supply also hit a record at $143 billion, tying the total put up in May of 2008. Here’s more from BofAML:
1Q set records for both supply and trading volumes in high grade, as new issue supply volumes reached $348bn, up from the previous record of $310bn in 1Q- 2014, whereas trading volumes averaged 15.6bn per day, up from the previous record of $14.3bn during the same quarter last year…
Issuance in March totaled $143bn and it tied with May 2008 and September of 2013 for the highest monthly supply on record going back to at least 1998. September of 2013 was the month when the record $49bn VZ deal was priced…
Supply in March was supported by low interest rates (encouraging opportunistic issuance on the supply side and supporting investor demand by diminishing interest rate risk concerns) and a busy M&A-related calendar. Some of these trends will continue in April, although investors are becoming more concerned about the Fed hiking cycle…
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Meanwhile, non-dealers are net short HY for the first time in at least two years:
Positioning for CDX HY turned negative for the first time since at least January 2013. Thus, CDX HY positioning fell to -$1.3bn, from $1.3bn in the prior week, marking a 2.6bn decline.
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Speaking of HY, we’ve noted on a number of occasions that QE may have inadvertently contributed to disinflation [8] over the past several months as artificially suppressed borrowing costs and the now 5-year old hunt for yield have conspired to allow otherwise insolvent oil producers to keep producing amid the supply glut. As a reminder, here’s what the picture looks like in terms of HY carrying spreads of 1,000bps or more versus last year (note the dramatic increase in energy-related issues):
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And as UBS notes, QE has had a dramatic effect on HY issuance:
For HY, the picture is crystal clear: In both periods, issuance was $130bn more than average, or about 50% greater than the average amount expected, over an 11 month period…
The main drivers were lower yields, sharp drops in yields (we find that the speed of yield changes plays a significant role in impacting issuance), and strong inflows…
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With deeply indebted shale producers beginning to run into trouble as writedowns loom, and with the debt issuance bonanza threatened by an impending rate hike cycle which UBS has shown is likely to push spreads wider, we would say yet again that stock price appreciation driven by balance sheet leverage will continue only until it can no longer continue.
