European inflation expectations fall to 2-year low | High-yield bond repayments ease maturity wall worries | Companies set to sell $125B in corporate bonds in Sept.
Federal Reserve Chair Jerome Powell indicated on Friday that interest-rate cuts are on the way, leading markets to consider the size of the first reduction and the future path of monetary policy. Meanwhile, investors are looking ahead to the release of the personal consumption expenditures price index. Core PCE likely rose 0.2% in July, according to economists, reinforcing expectations of an upcoming rate cut.
Inflation expectations in Europe have dropped to the lowest level since 2022, signaling that investors think central banks could continue interest-rate cuts without triggering higher inflation. This shift reflects growing concerns about a potential economic slowdown rather than inflationary pressure. "Growth data has been on the weaker side, and the disinflation trend seems intact," says Mohit Kumar, chief European strategist at Jefferies. "Both suggest less inflation pressure."
Corporates have settled over $170 billion of high-yield bonds due in the next two years, reducing the feared maturity wall and easing worries about potential defaults. This year has been the busiest for new corporate high-yield bond issuance since the pandemic, with $357 billion sold so far. Investors' eagerness to buy risky debt and the $1.7 trillion private credit market have provided more refinancing options.
Companies look set to sell around $125 billion in US high-grade bonds in September, an informal survey has shown. A significant portion of this is expected in the first three sessions after Labor Day. The forecast is in line with last year's $124.1 billion in bond offerings.
Investor-issuer relationships in the significant risk transfer market are evolving, with notable differences between European and US deals. European SRT transactions emphasize "risk sharing" and involve close collaboration between investors and issuers. In contrast, US deals often provide extensive data dumps and execute transactions quickly, leading to less satisfactory relationships.
Private credit managers are increasingly partnering with banks to help maintain relationships with risky oil, gas and coal clients, allowing banks to comply with European fossil-fuel regulations while still accessing lucrative commodities markets. As some banks retreat from fossil-fuel financing due to regulatory and reputational pressures, private credit is stepping in.
Systemic banks' leverage exposure had hit a record high of $17.87 trillion by the end of June, a 2.6% increase compared with January. This stemmed from a $358.4 billion increase in on-balance sheet exposure and a 4.5% increase in repo exposure. Bank of America, Goldman Sachs and JPMorgan Chase saw their highest leverage exposure ever, while Citigroup and Morgan Stanley were close to their records.
The CLO market remained resilient in July with spreads tightening across the capital structure, according to Kartesia. Euro CLO triple-A spreads narrowed in both primary and secondary markets, contributing to strong YTD returns. Early August saw brief volatility due to weaker macroeconomic data, but the market's cushions stayed robust.
Traders in the bond market have amassed a record level of risk as they anticipate Federal Reserve interest-rate cuts. Leveraged positions in Treasury futures have hit an all-time high, with open interest reaching almost 23 million 10-year note futures equivalents. This trend stems from bullish sentiment toward aggressive rate cuts during the next 18 months.
European investment grade corporate bond spreads have tightened by 9 basis points this year, defying expectations of a widening trend. This tightening is attributed to continuous net inflows into investment-grade credit funds. Looking ahead to 2025, three main factors are expected to further tighten spreads: The absence of significant election-related disruptions, the potential impact of the US presidential election and the postponement of a major refinancing wall to 2028.
Proposed bank regulations are likely to be delayed until after the November presidential election, particularly the introduction of the Basel III endgame rules. Federal Reserve Chair Jerome Powell has called for the rules to be reproposed, but even if they are pushed through rapidly, a 60-day comment period likely would take the process well past Election Day.
The US leveraged loan market, which has grown significantly since the 2008 financial crisis, is seeing a shift from maintenance covenants to incurrence covenants, raising concerns about economic stability. A recent paper by researchers from the Federal Reserve Bank of Boston, Harvard Business School, and the Federal Reserve Bank of Dallas finds that violations of incurrence covenants lead to similar declines in borrower investment activity as maintenance covenant violations. This shift could introduce a novel transmission mechanism for economic shocks, potentially amplifying their impact.
Financial-services firms and trade groups are using TV ads during Sunday Night Football games to lobby against the Basel III endgame regulations, which they argue will raise costs for consumers and small businesses. The ads aim to influence lawmakers and public opinion, and they mark a departure from traditional lobbying tactics.
The European Commission has delayed the implementation of the Fundamental Review of the Trading Book by one year, now set to fully apply in January 2026. Some EU banks had expressed a desire to start the new rules on time to avoid the extra workload and costs associated with running two models. An opt-in clause for early adopters was reportedly considered but ultimately rejected due to potential regulatory and market complications.
US banks significantly reduced their holdings of Level 2 high-quality liquid assets to a record low of 2.8% in the second quarter, favoring safer and more liquid Level 1 assets. Level 1 assets rose 2.5% in Q2 and 6.7% during the previous 12 months to a record $3.44 trillion.
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