Credit markets were firm in December, as spreads on EUR investment grade (IG) corporates tightened by 5 basis points (bps) to 102 bps. The tone was particularly strong in the first half of the month, as spreads briefly broke through 100 bps (setting lows of 98 bps) before drifting wider. Spreads were relatively immune to French political uncertainty and other geopolitical developments, despite President Macron losing a no confidence vote and a surprise downgrade of the French sovereign rating by Moody’s. Central banks were again a key driver of sentiment, as the Federal Reserve and European Central Bank’s (ECB) 25 bps rate cuts were delivered with a hawkish tone (or less dovish for the ECB), which, combined with concerns around stickier inflation in the US, led to rates moving materially higher. Curves steepened and 10-year government bond yields rose materially in December, by +40 bps and +28 bps in the US and Germany respectively. Sentiment turned negative in the second half of the month, albeit the impact was muted as technicals remain highly supportive – on a combination of inflows in credit and low supply towards year-end.
EUR IG corporates total returns were negative on the month (-0.38%), driven by higher rates that more than offset a moderate tightening of spreads.
In December, financials slightly underperformed non-financials (5 bps tighter versus 6 bps tighter). Across the capital structure, insurance Tier 2s outperformed, 17 bps tighter on the month, while bank seniors and Tier 2s underperformed (2 and 4 bps tighter respectively).
Top performers in December were mainly shorter-dated bank senior and Tier 2s that were less impacted by rising rates. Bottom contributors were mainly longer-dated bank seniors and Tier 2s that underperformed due to higher duration.
Issuance of green bonds from the European financial sector was low in December at USD 0.5 billion, in line with seasonal trends (USD 0.6 billion in Dec-23 and USD 0.4 billion in Dec-22). Overall issuance in 2024 is down 14% year-on-year to USD 44.6 billion, albeit the market continues to grow, +18% year-on-year to more than USD 230 billion.
Key news flow during the month was centred around M&A, which continues to be a positive theme for financial bonds. On the banks side, UniCredit surprised markets by announcing an all-share offer for Banco BPM (potentially creating the number two player in Italy) while raising its stake in Commerzbank to 28%. Both deals remain subject to considerable uncertainty – as both takeover approaches are hostile and political opposition (especially in Germany) is fierce. The theme of consolidation in the European banking sector remains credit positive, given the need to see the emergence of pan-European champions and address fragmentation in the market.
In the insurance sector, EIOPA (European insurance regulator) released the results of the 2024 stress test of European insurers. The results show that the sector would be resilient to an extreme adverse macro and market shock, as European insurers’ aggregate Solvency II ratios would remain above minimum requirements, and all insurers would meet regulatory requirements after management actions. The average solvency ratio falls to 140% post management action from 222% (minimum of 100%), with an aggregate excess capital of close to EUR 130 billion in the stress scenario. This showcases the sector’s very strong fundamentals and ability to withstand a very severe macro scenario.
We remain positive going forward – with attractive spreads against a backdrop of very strong credit quality. We continue to see financials as the most attractive part of the market, with rock-solid fundamentals and earnings that have benefitted from the normalisation of interest rates.
