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US Treasury yields eased further with the 10Y yield down 4bp to 4.81% after having breached the 5%-mark intraday on Monday before pulling back. S&P Flash PMIs showed that US business output ticked higher in October as the manufacturing sector came out of a five-month contraction. US Composite PMI rose to a 3-month high of 51 in October, above last month’s 50.2, and estimates of 50. Manufacturing PMI inched higher to the breakeven 50 level, above estimates of 49.5, and last month’s 49.8. This was its highest reading since April post which it witnessed a contraction. Services PMI came was also higher at 50.9, above estimates of 49.9 and September’s 50.1 print. US credit markets saw IG CDS spreads tighten 2bp and HY spreads tighter by 9.1bp. US equity indices closed higher as the S&P and Nasdaq were up 0.7-0.9%.
European equity markets were broadly higher. In credit markets, European main CDS spreads were tighter by 1.6bp and crossover spreads tightened 8.6bp. While the US PMIs showed an improvement, the Eurozone Composite PMI fell to 46.5 in October from September’s 47.2, its lowest since November 2020. This was also below estimates of 47.3, with some economists suggesting that the region could slip into recession. Asian equity markets have opened in the green today. Asia ex-Japan IG CDS spreads tightened 5.9bp. Analysts note that the Chinese economy is set to receive a boost with the approval of a $137bn additional sovereign debt issuance in Q4 and raising the budget deficit ratio to ~3.8% of GDP from the prior 3% set in March.
Z-Spread, also known as Zero-volatility spread is a fixed spread over the Treasury spot curve that makes the present value of the bond equal to its price. The Z-spread indicates the extra compensation or spread for credit, liquidity and optionality risk that investors would receive for buying that bond. The idea of calculating the spread is that a coupon paying bond can be valued as a series of zero-coupon bonds and the present value of these should be equal to the price of the bond. A simple approximate formula to understand Z-spread better is:
Treasury Yield + Z-Spread of the Bond ≈ Yield of the Bond
A widening z-spread indicates increased risk in the bond and a tightening z-spread indicates reducing risk.
On Debt Investors Dreading Rates Rout Missing Out – Vanguard
“Fixed income investors also tend to think about eras. We believe we are in a new era for fixed income in which bonds offer significantly more value – both in total returns and as better ballast within an overall portfolio”
On KKR Buying High-Yield Bonds, Sells US Bank Loans as Fed Pauses
Jeremiah Lane, head of US leveraged credit
“Don’t believe that the Fed is going to raise rates significantly higher from here… makes sense to tilt a portfolio toward taking advantage of the high yields available in floating-rate loans. However, the convexity, quality, and changing macroeconomic picture make fixed-rate high yield bonds more attractive than they were even a few months ago”
On Zero Risk Premium Leaves EM Bonds Less Appealing Than Ever
Richard Segal, fixed-income analyst at Ambrosia Capital
“There’s little incentive to take the extra risk and invest in emerging-market bonds when there is zero or negative carry”
Phoenix Kalen, head of EM Research
“We recommend under-weighting EM local bonds in the next few months considering ongoing gyrations in US rates and increased rates volatility”