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Something For Everyone

Weekly Fixed Income Comment – 10 July 2017

Overall Markets
It was a something for everyone week last week. Growth data in the shape of PMIs (or equivalent) were good in many countries, supporting the growth story. But this is so-called soft data and still leaves us with the question of whether the hard data (i.e. activity data versus surveys) will be as good. US non-farm payrolls are hard data and were strong but the accompanying wage data were not. Thus the question of whether good growth will lead to inflation was highlighted again (to get technical – how flat is your Phillips curve ?). Early Asian trade data (hard) were good and let’s see if China delivers more of this good news this week. Oil prices were down but inventory and production data out of the US were mixed, Libya and Nigeria are being brought into the OPEC/NOPEC production agreement discussions as their production levels seem steady at the recently attained higher levels, and positions in the financial markets are supportive of oil prices. US Treasury and German Bund yields have moved higher (i.e. prices lower) but Bunds are arguably a little oversold and these markets should steady up.

A lot of economic data is on the calendar this week from around the world and Janet Yellen will testify in Congress. More than enough to keep us interested even if summer volumes in the market are lower.

Bond Funds & Mandates

In The Region
MENA bonds and sukuk traded on the back foot last week, as the severity of the Qatari crisis remained unclear amidst softer oil prices and rising US Treasury yields. Credit spreads for UAE bonds were flat at 134 bps as indicated by the Bloomberg USD UAE OAS Index. The broader MECI universe did worse with spreads widening by 5 bps to 237 bps, in line with generally weaker emerging market bond markets. The primary market was muted.

On the macroeconomic front, the growth picture is mixed. Non-oil, private sector growth lost momentum last month in Saudi Arabia according to the June, Emirates NBD Purchasing Managers’ Index (PMI), which decreased to 54.3 from 55.3 the month before. Despite weaker growth in new orders and output, the overall economic situation remains okay as the average PMI reading for H1 2017 is higher than the average reading of H1 2016. In the UAE, the PMI rose to 55.8 from 54.3 in May, led by increasing new orders and output. On the minus side, firms continue to reduce selling prices and margins in order to support growth. Elsewhere in the MENA region, non-oil growth continues to contract, notably in Egypt and Lebanon where PMIs came in lower than in May and below 50 at 47.2 and 46.1 respectively.

Liquidity conditions improved slightly in Saudi Arabia as the USD 1 billion drop in foreign assets in May was the lowest drop recorded in single month since May 2016. Money supply indicators were all positive in May despite growing at a slower rate than in April. Fiscal consolidation is under way in the GCC as Saudi Arabia’s current account was in surplus in Q1 2017 at USD 6.24 billion vs. a deficit of USD 2.33 billion in Q4 2016.  Oman’s budget deficit narrowed by 21.2% year to April to USD 178.5million vs. USD 556.7 million over the same period last year, although this still remains the major concern.

In an attempt to reassure the markets, Qatar’s Central Bank governor declared that the country had “enough cash to preserve any kind of shock.” He added that the Central Bank had more than USD 40 billion of reserves and that QIA had USD 300 billion in reserves that could be quickly liquidated if required.  Rating agencies continue to closely monitor Qatar’s situation. Moody’s affirmed Qatar’s Aa3 rating but revised its outlook to negative from stable, mentioning the “increased likelihood of a prolonged period of uncertainty extending into 2018.” The agency also downgraded the credit rating outlook of nine Qatari banks from stable to negative citing “the weakening capacity of the government of Qatar to provide support in case of need.” The banks affected by this decision are : Qatar National Bank, Doha Bank., Al Khalij Commercial Bank, Ahli Bank, Barwa Bank, International Bank of Qatar, Masraf Al Rayan, Qatar International Islamic Bank and Qatar Islamic Bank.

Fitch revised its outlook to negative for Bank of Muscat, Bank Dhofar and Bank Sohar highlighting the weakening financial flexibility of Oman’s government to support its banking system on the back of lower oil prices.

Nothing in the primary market.

Out of Region
The JP Morgan EMBI Global Diversified (US dollar denominated, sovereign, emerging market bonds) lost 89 bps last week. The underlying return from US Treasuries was the main detractor, although credit spread related returns were also negative as spreads widened. On a regional basis, while all returns were negative Asia was the best performer with a 47 bps loss and Africa was the worst performer with a loss of 176 bps. Gabon, Ethiopia and Kenya performed poorly with an average loss of 273 bps, while Mozambique, Belarus and Belize performed well with an average gain of 109 bps. Investment Grade bonds performed better than High Yield. Zambian bonds suffered along with other African bonds as the political tension remains. The President invoked a state of emergency which the parliament will debate this week, the opposition has criticised the measures as unnecessary. Crucially, so far the measures are not expected to impact the ongoing IMF talks.

For the corporate sector, the CEMBI Broad Diversified (US dollar denominated, corporate, emerging market bonds) also recorded a loss of 30 bps driven by Treasuries. Similarly, Asia was the best performer with a loss of 17 bps return while Europe was the worst performer with a loss of 51 bps. Metals and Mining was the best performing sector with a 10 bps loss while Oil and Gas was the worst one with a 63 bps loss.

In the local currency markets, the JP Morgan GBI-EM Global Diversified index was down 61 bps in US dollar hedged terms last week. Currency returns were also negative with the unhedged returns recording a 138 bps loss. Latin America was the best performing region with a loss of 42 bps, while Asia was the worst one with a loss of 100 bps. Brazil was the best performing country with a 24 bps gain in US dollar hedged terms. Despite the ongoing political saga, the government continues to push on with its reform agenda which is well received by the investors. Thailand performed well with a gain of 7 bps, followed by Chile and Philippines with 1 bps each in US dollar hedged terms. Thailand’s manufacturing sector is starting to perform well according to the latest data. The Chilean bond market rallied because of the end of the strike in the mining sector, while signs of reduced inflationary pressure was the main driver of the gain in the Philippine bond markets. Indonesia was the worst performer last week with a loss of 232 bps in US dollar hedged terms. The market reacted negatively to the revised budget that increases the deficit to 2.9% of GDP, increasing the risk of breaching the 3% constitutional limit. Peru and Colombia also performed poorly with 191 bps and 134 bps losses respectively in US dollar hedged terms. Leading indicators in Peru point to weak economic activity due to low employment and deteriorating labour conditions. In Colombia, concerns about the political stability continues to negatively affect market sentiment. However, inflation is back in its target range for the first time in more than 2 years.

In the FX markets, the Brazilian real, Mexican peso and Hungarian forint performed well last week. The laggards were the Turkish lira, Russian ruble and South African rand.

The Funds
Our internal systems show that the MENA Bond Fund (MBF) was down by 0.33% last week to July 7th. The Bloomberg UAE Index was down by 0.18% whilst the JP Morgan MECI and the JP Morgan MECI GCC indices were down by 0.70% and 0.68% respectively, so MBF’s performance was better than the broad market. According to the 6th July NAV, MBF was up 2.20% year to date. The yield on MBF is 4.30%, duration is 3, volatility is 1.74%.

The Sukuk Income Fund (SIF) was down by 0.26% last week to Friday 7th July, according to our internal systems. Indices returns were negative too, the JP Morgan MECI Sukuk Index and the Dow Jones Sukuk Index were down by 0.50% and 0.47% respectively, so SIF outperformed the market. According to the 5th July NAV, SIF was up by 1.12% year to date.The profit rate for SIF is 4.42%, duration is 3.16, volatility is 1.75%.

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