Peripherals ride relief rally as Macron pierces gloom

Peripheral credits such as Banco Sabadell and Intesa Sanpaolo made hay of strong conditions that followed the first and second round victories of Emmanuel Macron in the French presidential election in May, as the political clouds that had long cast a shadow over the credit markets finally cleared.

Intesa Sanpaolo image

Additional Tier 1 (AT1) supply had been light in the weeks and months approaching the French vote, which was the latest, and potentially last in a series of elections carrying heightened political risks. A last-minute surge in support for Jean-Luc Mélenchon had raised the prospect of a far-left vs. far-right second round also featuring Marine Le Pen but no mainstream candidates.

However, Macron’s convincing share in the first round, performance in a televised debate with Le Pen, and ultimate second round victory catalysed a wave of AT1 issuance from peripheral European credits.

Banco de Sabadell led the way on 5 May, selling a EUR750m perpetual non-call five inaugural AT1, rated B2.

“With little doubt, the issuance highlight here in Europe was Friday’s EUR750m AT1 for Sabadell that priced at an aggressive 6.5%, still rallied post-pricing (up 5/8), and probably serves as the best example of how strong sentiment was last week,” said a syndicate official at one of the leads.

The Spanish bank was able to tighten pricing from initial price thoughts (IPTs) of the 7% area to the eventual 6.5% — a level some put inside fair value (even if this was deemed difficult to calculate given a lack of direct comparables) and which was lower than a 6.75% coupon achieved by compatriot Santander on a EUR750m AT1 of the same maturity structure just three weeks previously. Such pricing was made possible by a book of over EUR4.75bn.

“Until the first round of the election French investors were parking cash in very defensive products, while asset managers in the UK were waiting for something very cheap in the primary market,” says Vincent Hoarau, head of FIG syndicate at Crédit Agricole CIB. “But after the first round [on 30 April], and particularly after the debate, people were already starting to load up on hybrid instruments in the secondary market.

“Sabadell then really got the ball rolling. People had started lining up deals between the two rounds and the feedback that Sabadell was getting was so good that they were even able to print on the Friday before the second round [on 7 May], achieving perfect timing and front-running the anticipated supply.”

After European public holidays on the Monday (8 May), Intesa Sanpaolo achieved a similarly impressive pricing outcome on its EUR750m perpetual non-call seven AT1 on 9 May.

Pricing was tightened from IPTs of 6.75% to guidance of 6.375% plus or minus 0.125%, will price within range, and ultimately set at 6.25% on the back of EUR3.5bn of orders. This was deemed inside fair value given that the issuer’s 7.75% perpetual non-call 2027s were quoted at a 6.55% and an i-spread of 572bp, and its 7% perpetual non-call 2021s at 5.97% and 598bp.

“This was a very strong transaction, too, riding the strong market conditions and very good tone of the AT1 market,” says Hoarau. “It was a relatively small trade for Intesa, given their previous AT1 was EUR1.25bn, and it also benefits from a best-in-class reputation in Italy.”

UniCredit followed its peer on 15 May, pricing a EUR1.25bn perpetual non-call six AT1 at 6.625%. The level came in from initial price guidance of the 6.875% area on the back of more than 200 orders totalling some EUR3bn.

The deal took the Italian bank to 50% of EUR3.5bn of Additional Tier 1 issuance foreseen under a “Transform 2019” strategic plan announced in December 2016, which had included a EUR13bn rights issue completed on 2 March.

“Clearly this was a very visible and very important trade for the national champion, coming after their capital increase,” said a market participant. “It’s a far cry from their 9.25% EUR500m privately placed perp non-call 22 last December, but that’s also because after the capital increase the UniCredit of today is not the UniCredit of back then.”

Spain’s BBVA the next day (16 May) issued a EUR500m perpetual non-call five AT1 as a club deal. Although some market participants questioned the format given the strength of the market and noted that the 5.875% coupon compared Santander’s recent perpetual non-call five trading at 5.4%, the sub-6% level was nevertheless exceptional for a peripheral AT1.

The primary market then took a breather as secondary credit spreads corrected and equities fell, with concerns around US president Donald Trump growing as he fired the head of the FBI and was reported to have revealed classified intelligence to Russia’s foreign minister. However, the hiatus caused few fundamental worries.

“As always, it is important to ignore the hype and hysteria that is a feature of the news cycle and focus on the nuggets of information that are really important,” said BlueBay Asset Management partner and co-head of investment grade credit Mark Dowding. “In that context, we see little reason to change our current views.

“In this sense, the recent spike in volatility is welcome as it provides us with great opportunities to take advantage of mispriced assets.”

Indeed, the tone of the AT1 market is expected to remain constructive, with supply/demand dynamics continuing to support the sector.

“There is still strong demand from Asia, a lot from US high yield accounts, and strong demand from European accounts,” says Nigel Brady, credit financials trader at Crédit Agricole CIB, “and then there are obviously still CoCo funds who are receiving pretty hefty inflows, so it’s been pretty much one way ever since Macron’s first victory.

“Although we’ve come a long way, valuations are still relatively supportive,” he adds. “We are still considerably wider than other subordinated financial securities, and given how some of the more peripheral banks have been able to fund, it is a virtuous circle: the more capital they have, the safer they are, so these products are that much better, so spreads should continue to tighten.”

The magnitude of yield moves has meanwhile resulted in an unusually notable outperformance of longer dated bonds, he notes, while the improvement in the levels of weaker credits has seen their prices improve significantly as the likelihood of them being called has fallen.

“The only worry is complacency,” suggests Brady, “and my only reservation would be from a macro perspective. But even there I would continue to argue, as we have done for some time, that AT1 will outperform most other asset classes going forward.

“And as for political events? Well, we’ve got through Trump, Brexit and everything.”