July was a stronger month for both risk assets and subordinated debt. However, this is only a small rebound versus the moves we have seen year-to-date. Spreads remain wide and attractive, in our view. As such we expect our securities will likely continue to benefit over time. Moreover, we are capturing high income with still a large number of securities capturing yields above 7%. On the macro front, CPI numbers have remained relatively high, and a number of investors are concerned about a recession, as well issues linked to energy in Europe. Irrespective of this backdrop, we believe financials are in a strong place, with large excess capital and strong asset quality. We have started Q2 earnings season and so far, results have been resilient. Moreover, financials will likely benefit from higher interest rates as this increases their profitability. For instance, during H1 2022, BBVA’s return on equity increased to a strong 14.1%. Furthermore, from a credit standpoint BBVA still has close to EUR 13 billion of excess capital. All of the above makes us believe that our securities should benefit going forward. As credit fundamentals remain strong, we are capturing high income and valuations remain at attractive levels. On top of that, most of the subordinated debt is still pricing extension risk. As an example, additional tier 1 (AT1), restricted tier 1 (RT1) and corporate hybrids are perpetual bonds which have call dates. During positive market periods, most of those securities are priced to the next call date. However, during risk-off environments such as this year, a large number of those securities reprice to perpetuity. This creates a double-negative effect on prices. As the large majority of our bonds are pricing the extension risk, we believe they should benefit going forward as valuations tighten.
Monthly Commentary – July 2022 USD
