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By Hillary Flynn
NEW YORK, Dec 2 (IFR) - Both borrowers and investors could benefit from stronger technicals in the US high-grade market if forecasts of shrinking primary supply for 2017 prove true.
While primary volumes are on course to hit record levels this year, some bankers and analysts are predicting a reversal of that trend in 2017.
Forecasts among some large shops have gross supply next year ranging between US$1trn and US$1.2trn, potentially putting volumes at their lowest level since the 2014, when issuance hit US$1.102trn, according to Thomson Reuters.
Expected repatriation of overseas money, higher rates, a shrinking M&A pipeline and attractive funding options in the equity markets mean fewer corporates are likely to tap bond financing in 2017, analysts argue.
“We’re going to be a little down next year by at least 5%, maybe US$1.2trn issuance overall,” a senior banker told IFR.
Year to-date volumes as of Friday stood at US$1.263trn, putting them within reach of the US$1.269trn seen in 2015 - a record year for the asset class, according to Thomson Reuters.
With US high-grade corporates facing higher refinancing needs next year - US$660bn, according to Morgan Stanley - net supply will be even tighter.
All this bodes well for stronger technicals, especially in light of robust demand for the asset class.
Foreign accounts are still keen buyers of the asset class given looser monetary policy in Japan and Europe, while pension funds will also be more active as yields rise in the US.
Against that backdrop, JP Morgan sees high-grade bond spreads tightening from 158bp in November to 140bp by year-end 2017. New issue concessions are also expected to shrink.
“Borrowers will have more flexibility and the bonds will have more scarcity value, causing new issue concessions to come down,” a credit strategist told IFR.
While NICs increased during the rates sell-off following the US presidential election in early November, they have been steadily falling since then.
The average concession dropped to 5.02bp for the week ending November 18, down from the 6.42bp seen the prior week, according to Thomson Reuters data.
“Part of what we’ve seen in the fourth quarter is interest rate volatility supporting larger new issue concessions,” the credit strategist said. “As that volatility subsides early next year, concessions will be smaller.”
Semiconductor maker Analog Devices’(A3/BBB) US$2.1bn four-part bond issue on Wednesday underscored this trend, generating a US$13bn order book and achieving flat to negative 5bp concessions.
Buyside sources told IFR that they bought Analog’s deal because they expect the primary market will be even more competitive in January amid lower volumes.
Desks said large M&A deals like Analog’s will price especially tight as the supply of such issuance falls.
Bank estimates for the M&A bond pipeline in 2017 range between US$135bn and US$180bn, down from US$200bn going into this year.
Supply in the high-grade market could also be impacted by a rally in the stock market, which has been on a tear ever since Donald Trump was elected in November.
“Supply could drop more than 5%-10% if the equity market remains robust and issuers use that to fund transactions,” the credit strategist said. “Stocks are higher every day and if interest rates rise, that makes equity look more attractive.”
Changes in US tax law under a Trump presidency could encourage companies to repatriate substantial sums of overseas cash, reducing the need to issue in 2017.
US companies are estimated to have as much as US$2.6trn overseas, according to the Joint Committee on Taxation.
Issuance reduction as a result of repatriation will be felt mostly in the tech, healthcare and consumer sectors, with supply expected to fall by US$75bn, US$36bn and US$10bn, respectively, according to JP Morgan.
UBS analyst Alex Kramm noted in a recent report that non-financial high-grade corporate bond issuance declined by 30% during the last repatriation in 2004.
And even if the passage of tax legislation moves slowly, companies are likely to hold off until it is clear whether or not they will have access to overseas cash, JP Morgan said.
“Repatriation would mean lower issuance volume, companies could just use the cash to fund share buybacks or M&A instead of issuing debt,” a syndicate banker said. (Reporting by Hillary Flynn; Editing by Paul Kilby and Philip Wright)