5/19/23 – Yields rise as Bank crisis fades and US debt default seen as a only a temporary issue – Halyard’s Weekly Wrap

The headline economic report this week was Retail Sales and, for the most part, it told the story of a resilient consumer.  The headline result rose 0.4% over the March reading, which you may recall was an abysmal -1.0%, month-over-month.  March’s outcome was revised to a simply dreadful -0.7%.  On balance, the market ignored the data, choosing instead to obsess about the debt limit impasse.  Treasury Secretary Yellen reiterated her concern that the U.S. would default as soon as June 1^st if an agreement to raise the ceiling isn’t reached before then.  The Treasury Bill market has priced in a default, with early June Bill maturities offering a yield-to-maturity of as much as 5.5%, more than 0.50% higher than Bills maturing a month later.  Ironically, the rest of the yield curve, as well as the stock market are trading as though an agreement of the ceiling will be reached.  We agree that a deal is most likely to be reached and the market will again return to trading on fundamentals, but as we get closer to the drop dead date, we expect that volatility will rise.

On Tuesday Pfizer, the big pharma company announced that they would be issuing $30 billion in debt across eight tranches including maturities from 3-years, all the way out to 40-years.  That’s an enormous amount of debt issuance, the fourth largest corporate bond deal ever.  But investors were enthusiastic for the opportunity to own an A+ rated, nonfinancial corporate and the final tally of bids nearly doubled the amount issued.  In a positive sign for the issuer and the market in general, the spread between Pfizer and Treasuries narrowed across all maturities.

Another interesting twist this week was the announcement that Credit Suisse AT1 bonds would not benefit from credit default insurance.  AT1 debt is a bail-in bond which is structured to convert to equity in the event of a default.  Because of that structure, the Credit Derivatives Determination Committee (CDCC) determined that the AT1 bonds are not eligible for payout.  There were a number of hedge funds that had bought credit default protection anticipating a default that will not be compensated.  The bigger message is that AT1 bonds carry a bigger risk than senior debt, which is why we do not buy them.

Next week is chock full of market-moving data, but the debt ceiling debate will take precedent over everything else.  The gamesmanship continues as the Republican negotiators supposedly walked out of talks this morning.  We’re likely to witness more of this behavior as we approach June 1^st.