En France

Weekly Fixed Income Comment – 02 May 2017

Overall Markets

Familiar themes were and are evident during this quiet May Day period in the markets. In no particular order: North Korea, France, US growth and oil prices are still in the headlines. Actually North Korea is in some ways not in the headlines quite so much, maybe China and the US have had some success in establishing effective lines of communication with the worrying leadership there. US growth made the news on Friday with a “weak” Q1 GDP number. However, aside from the usual debate about faulty seasonal adjustment of Q1 GDP data, the underlying details were stronger than expected and many economists revised up their Q2 numbers on the back of it, and nowcasts such as that from the NY Fed went up last week for the first time in several weeks. As we’ve written before, US and global growth might have softened a bit of late and Trump may be struggling to get anything done but the level of growth still remains good, and thus good for credit spreads. We’re still sympathetic to the IMF update that we wrote about last week. Oil prices have come down further, again the forces that are battling seem to be the same as listed last week: high inventories and speculative positions versus growing demand and OPEC/ NOPEC production agreements. Talking of speculative positions, there was another large reduction in the speculative long US Treasury positions last week. We have mentioned these before too, as being a factor that we believe we have underestimated this year. There are a number of ways to measure these, with some saying that this set of market participants is now long the market. On our measure, they are still slightly short but have unwound ALL the short positions established after the US elections, with positioning now in line with long term averages.

This Sunday will see the second round of the French Presidential elections. Of the known unknowns, this is clearly the most important. The polls were pretty accurate for the first round and indicate a comfortable Macron victory on Sunday. However, it seems as if the markets still assign some material probability to a Le Pen victory, after Brexit and Trump. We find it difficult to disagree with the consensus; that Macron will win and that because of market caution this will propel the euro, European equities and risk assets generally. Any other election and market outcome will obviously be tres important.

Bond Funds & Mandates

In The Region
MENA debt performed well last week as geopolitical risk receded. Credit spreads for UAE bonds tightened by 6 bps to 139 bps as indicated by the Bloomberg USD UAE OAS Index. The broader MECI universe did slightly less with spreads tightening by 5 bps. It was quiet again in the primary market, only the issuance of USD 500 million by the Government of Jordan at a yield of 5.875% for a 9-year bond.

GCC macroeconomic data last week was limited too; money supply aggregate, inflation and Dubai tourism industry indicators. Inflation picked up slightly in Bahrain and the UAE. In Kuwait, CPI eased from 3.2% in February 2017 to 2.6% in March. The Saudi Arabian central bank’s foreign assets declined at a slower pace in March, as reserves fell by USD 5.5 billion in March to USD 501.4 billion. The government continues to draw down on foreign assets to help cover its budget deficit. UAE banks’ deposits were up by 1.3% in March, so up by 6.3% on an annual basis. Credit growth increased marginally by 0.7% in March and was up by 5.3% on an annual basis. Passenger traffic at the Dubai International Airport, a key indicator of economic performance, was up by 3.8% in March as Emirates Airlines and Fly Dubai opened new routes. The number of tourists was up by 11% in Q1 2017, with Western Europe accounting for 22% of the total number of visitors followed by GCC and South Asian tourists representing 19% and 17% respectively. While Indian visitors remained highest with 578 000 tourists, Russian and Chinese nationals were the fastest growing visitors by nationality. Russian visitors increased by more than 100% in Q1 2017 on the back of easier visa rules and a stronger ruble, while Chinese nationals grew by close to 65% in Q1 2017. Cargo traffic also demonstrated strong growth in March 2017 as it increased by 16.7%.

S&P downgraded TAQA from A to A- while revising its outlook from stable to negative. “Recent related-party transactions at Taqa, including removal of a favorable put arrangement, raise potential risks to our view of the level of government support,” S&P said. “The negative outlook reflects the risk of a multiple-notch downgrade if we revise down our assessment of the likelihood of government support.” The management (and we) believe that government support is still strong, and there was limited impact on bonds.

Etihad (Equity Alliance) Partners bonds made the headlines as Alitalia, which is 49% owned by Etihad Airways, said that its staff refused a restructuring package and the company might have no other option than filing for bankruptcy. EA Partners I and II moved down towards prices of 90, as Alitalia related bonds traded at 15 cents on the dollar (or euro). Prospective issuers, some before Ramadan, include: Oman, Al Baraka Bahrain, Dubai Aerospace Enterprise, ACWA Power Saudi, Qatar International Islamic Bank, Abu Dhabi Islamic Bank, Ahli Bank of Oman, NAMA Holding, Egypt and Abu Dhabi National Energy (Taqa).

Out of Region
The JP Morgan EMBI Global Diversified (US dollar denominated, sovereign, emerging market bonds) gain 36 bps last week. The underlying return from spread was the main contributor, with the return from underlying US Treasuries being -36 bps, a rare negative week recently. Africa was the best performing region with a gain of 82 bps while Asia was the worst performer with a loss of 13 bps. Looking at countries, while Zambia, Venezuela and Gabon performed well with an average return of 2.35%, Colombia, Mexico and Trinidad and Tobago were the laggards with average loss of 0.53%. For Zambia, positive news about an IMF deal outweighed troubled, domestic politics. High yield bonds performed much better than high grade. For the corporate sector, the CEMBI Broad Diversified (US dollar denominated, corporate, emerging market bonds) recorded a gain of 25 bps also driven by spread. Africa was the best performers with 65 bps return while Asia was the worst performer with a loss of 5 bps, although one of our focus countries there, Indonesia, did well. Infrastructure was the best performing sector with a 95 bps gain while Oil and Gas was the worst one with just 1 bp. Turkish sovereign and corporate bonds were strong again.

In the local currency emerging markets, the JP Morgan GBI-EM Global Diversified index was up 11 bps in US dollar hedged terms last week. Currency returns were also positive with the unhedged returns recording 22 bps gain. Europe was the best performing region with an 18 bps gain, while Middle East and Africa was the worst performing region with a loss of 31bps. Peru was the best performing country with a 126 bps gain in US dollar hedged terms. The Peruvian government revisited its consolidation plan to increase expenditure, due to the El Nino effects the 1% deficit target will be reached in 2021 to allow for more spending. Colombia and Czech Republic also performed well with 51 bps and 49 bps gains respectively in US dollar hedged terms. In Colombia, the central bank cut interest rates by 50 bps to help revive the economy as inflation dropped to 4.7% in March from a peak of 9% recorded 9 months ago. The Czech bonds performed well on the back of their inclusion in the index and the removal of the central bank’s cap on the currency appreciation. The final weight for the Czech Republic will be 3.3%. Argentina was the worst performer last week with a loss of 89 bps in US dollar hedged terms. The trade deficit widened further in the first quarter due to growing imports. However, the expected economic recovery should boost tax revenues and slightly improve fiscal results. South Africa and Thailand also performed poorly with 31 bps and 30 bps losses respectively in US dollar hedged terms. Local politics continue to affect the South African markets, even though the latest data indicated a surge in the trade surplus driven by mining sector, to USD 860 million in March from USD 362 million in February. In Thailand, growing household debt remains a concern, and the central bank imposed further reserve requirements on some financial companies, which will further negatively affect consumer confidence.

In the FX markets, the Turkish lira, Hungarian forint and Polish zloty performed well last week. The laggards for the period were the Chilean peso, Colombian peso and South African rand.

Our internal systems show that the MENA Bond Fund (MBF) was up by 0.42% last week to April 28th. The Bloomberg UAE Index was up by 0.16% whilst the JP Morgan MECI and the JP Morgan MECI GCC indices were up by 0.07% and 0.06% respectively, so MBF’s performance was better than the market. According to the 27th April NAV, MBF was up 2.69% year to date. The yield on MBF is 4.17%, duration is 3.21, volatility is 1.65%. The Sukuk Income Fund (SIF) was up by 0.32% last week to Friday 28th April. Indices delivered mixed returns as the JP Morgan MECI Sukuk Index was up by 0.16% while the Dow Jones Sukuk Index was flat. According to the 26th April NAV, SIF was up by 1.66% year to date. The profit rate for SIF is 4.00 %, duration is 3.36, volatility is 1.76%.

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