2019: Primary outlook from CACIB’s FI syndicate

To go or not to go? That is the increasingly fraught question issuers will be asking themselves in 2019 as macroeconomic and geopolitical uncertainty persists and volatility drives investors’ strategies, according to Vincent Hoarau, head of FI syndicate at Crédit Agricole CIB.

ECB Draghi camera web

Bank+Insurance Hybrid Capital: Would you expect 2019 to be a big year for bank debt issuance?

Vincent Hoarau, CACIB: Definitely. But many uncertainties remain around how that supply will shape up. In 2019 banks will continue to optimise their capital structures in accordance with MREL/TLAC requirements. Considering heavy redemptions across the board and new regulatory frameworks coming into place — mainly in the Nordic countries — we expect senior non-preferred/HoldCo gross issuance to reach around EUR155bn-EUR160bn in 2019. Meanwhile, a stronger focus will be put on liquidity and pure balance sheet funding. The funding mix has started to normalise, but is still driven by technicals such as MREL/TLAC, NSFR, and TLTRO refinancing. In June 2019, EUR400bn of TLTRO II funding will slip below one year until maturity. Banks will therefore have to anticipate this liquidity cliff and pre-fund their needs before the final repayments of the TLTRO II. The refinancing of the amount at stake seems an insurmountable task unless the ECB steps in. Having said that, the type of supply and issuance sequence will logically be influenced by the potentially new ECB operations that could be announced in the first half of the year. This is a major moving part of the equation.

Elsewhere, in the AT1 space, the list of calls to refinance is long and the sector may experience some volatility in that context.

BIHC: Will smaller banks be able to access the market for MREL/subordinated debt?

Hoarau, CACIB: Yes, but their strategies must be aligned with the new regime in the primary market. Idiosyncratic risks increased in 2018, with several issuers experiencing misfortune in primary and volatility around specific names. Investors are putting greater focus on national champions and on the most liquid transactions to better control their mark-to-market risk. This is a legitimate response to a very volatile and adverse environment where total returns have been execrable. In the second half of the year, many plans to sell subordinated debt have been postponed. Smaller issuers, namely those that are not established in the capital markets or with a smaller investor base, may struggle to sell deeply subordinated debt without a tailor-made marketing approach. Liquidity premiums will likely be added to new issues in 2019 for sub-benchmark Tier 2 or AT1. But it’s not only about performance and volatility in a portfolio; investors realised that any type of debt can absorb losses, and subsequently sensitivity to names and balance sheet profiles will increase, together with the list of capital metrics scrutinised during the due diligence process. Non-deal roadshows and marketing throughout the year will be decisive for less frequent borrowers.

BIHC: How would you describe the way issuance conditions shaped up in 2018?

Hoarau, CACIB: Through 2018, technicals changed. We moved from a “fear of missing out” mentality driven by liquidity in January 2018 to a “buy on dips” mentality mid-year. We are now in the second phase of the transition period where people reassess the long term impact of the new liquidity regime on asset valuations in a market mainly driven by fundamentals.

Vincent Hoarau New web

BIHC: How would you describe the current situation?

Hoarau, CACIB: There is a new regime in primary and the stop-go mode is here to stay. Since Q2 2018, when central banks accelerated the tightening of unconventional measures, issuance volumes and windows have been strictly driven by fundamentals and no longer by liquidity. Meanwhile, the list of risk factors to navigate is getting ever longer. The Italian and Brexit sagas will contribute to fuelling volatility throughout Q1 2019. As the impact of fiscal stimulus fades in the US and trade tensions bite, concerns about the trajectory of economic growth in the US and China will drive global sentiment, causing wobbles in financial and credit markets. That said, headline risks to a large extent will continue to dictate market sentiment. How you generate attractive performance in such an environment is a question on every PM’s mind — and consequently affects syndicates’ recommendations to issuers.

BIHC: What is your greatest concern for the beginning of 2019?

Hoarau, CACIB: There is a clear and deep shift in market sentiment. As I mentioned, macro/geopolitical headline risks will remain elevated in an adverse interest rate environment for credit markets. But elsewhere, hedge fund liquidation persists, data has shown investor outflows continuing for a dozen straight weeks. And the net outflows are visible in IG as well as non-IG products.

You may recall the extreme moves observed in May in short-dated BTPs. They fuelled a significant VaR shock across assets. Coupled with the ongoing volatility, these have a long term impact on the level of liquidity in the secondary market and on the genuine appetite of investors for risky credit assets. Bear in mind that you can’t control your risk if there is no liquidity in the secondary market. So investors will either stay away from high beta instruments or request a higher liquidity premium! And this problem will be exacerbated for issuers approaching the primary market with sub-benchmark instruments — some already experienced such misfortune this year and had to postpone their offerings.

Adding to the growing list of concerns is a general move towards defensive portfolios that PMs may undertake as the list of US BBB- corporates on negative outlook grows by the day. This may impact valuations of high beta instruments issued by financial institutions across the board in 2019.

BIHC: Do you see any good news on the horizon?

Hoarau, CACIB: If the end of the US cycle is confirmed by a stronger than expected economic slowdown in Q1 2019, the Fed may be accommodative and revisit its rate hiking timeframe. The ECB could also review its interest rate rise commitment on the back of a bleaker outlook in Europe and be more explicit already in January on its intention vis-à-vis a TLTRO II “replacement”. This would give succour to the market. But for the time being, there’s no open bar — central bankers have left the party and we should get prepared for a bumpy January.

Photo credit: ECB/Flickr