Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

The lack of shock and awe from this week’s FOMC meeting did not derail market sentiment as risk tolerance returned to the fixed income markets, albeit without strong conviction. Supply, the US election and vaccine progress are back to the forefront of risk sentiment drivers over the near term while the degree of additional monetary policy stimulus that can be affected remains open to debate. Against this backdrop, Asia and the US high yield markets tightened by similar amounts.   
In rate markets, US Treasury curve steepening returned after two weeks of clear flattening following the Fed Chairman’s Jackson Hole speech. Curve steepening is generally associated with increased bank net interest income from maturity transformation. The return of the reflation trade, along with slightly higher oil prices, suggests that investor’s economic demand expectations rose slightly during the week, despite the lackluster FOMC result. Next week’s record supply of 2-year, 5-year and 7-year Treasury notes should weigh on the rates market, particularly with Japan on holiday on Monday and Tuesday. 
At the shorter end of the interest rate curve, Eurodollar futures rates ticked-up in the +4-year area to suggest one interest rate increase in 2024 and another in 2025. This is hardly consistent with a meaningful attempt to overshoot a 2% inflation target and begs the question of how the Fed can achieve this target with its current policy toolkit. It appears as if lower-for-longer is a five- to seven-year look forward.   
In-line with steepening of the US Treasury yield curve and a return of risk sentiment in Asia, ten bond spreads tightened for every one that widened during the week. The tightening to widening ratio was more than three times the prior week. Almost every bond in our +100-universe tightened. Bank of China’s 2025 callable AT1 bond outperformed all others, tightening by 17bps. <a href="https://www.smartkarma.com/entities/bank-of-china-ltd" target="_blank" data-smartkarma-citation="entities:24574:1" rel="noopener">Bank Of China (BCHINA)</a>AT1 bond has become somewhat of a bellwether of Asia bank risk sentiment over the last few weeks.
In bank debt capital markets, over US$15 billion of securities were issued as banks continued to take advantage of low rates and sustained demand. Amongst Asia-centric banks, Bangkok Bank, Bank of China, HSBC Holdings, ICBC and Sumitomo Mitsui Financial Group brought US$ bonds during the week. We expect <a href="https://www.smartkarma.com/entities/ind-comm-bk-of-china-h" target="_blank" data-smartkarma-citation="entities:1119:1" rel="noopener">ICBC's (H) (1398 HK)</a> new AT1 note to trade in-line with BCHINA’s AT1 over the near term. HSBC’s new note came at a meaningful 20bps new issue concession relative to its holding company Senior Unsecured curve. We suspect that <a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings' (HSBA LN)</a> new issue bond will tighten by at least 10bps relatively quickly. Please see <a href="https://www.smartkarma.com/insights/bangkok-bank-s-new-at1-overweight-on-relative-value" target="_blank" data-smartkarma-citation="insights:43402" rel="noopener">Bangkok Bank’s New AT1 – Overweight on Relative Value</a> for our views on this debt issuer and its new security.
Market Outlook The current issue is that Fed policy is now more unpredictable, absent greater guidance on how its new longer-run strategy will influence near-term policy decisions. This past week’s FOMC meeting disappointed by not adding depth to the monetary policy canvas. As such, risks may now be materially higher for EM credit. Until now, perceptions were that lower-for-longer interest rates would cause US$-investors to reach for yield, in turn raising demand for longer maturities and non-US assets. Following Fed Chairman Powell’s speech, if the Fed permits long bond yields to rise, then marginal flows into emerging market credit may slow on increasing dollar strength.
Inside: In this weekly, we elaborate on these themes as we review global credit index levels, interest rates, Eurodollar futures and fund flows as well as bank bond spread moves and recent debt issuance to identify possible investment opportunities and potential pitfalls in Asia-headquartered bank bonds.

The lack of shock and awe from this week’s FOMC meeting did not derail market sentiment as risk tolerance returned to the fixed income markets, albeit without strong conviction. Supply, the US election and vaccine progress are back to the forefront of risk sentiment drivers over the near term while the degree of additional monetary policy stimulus that can be affected remains open to debate. Against this backdrop, Asia and the US high yield markets tightened by similar amounts.   
In rate markets, US Treasury curve steepening returned after two weeks of clear flattening following the Fed Chairman’s Jackson Hole speech. Curve steepening is generally associated with increased bank net interest income from maturity transformation. The return of the reflation trade, along with slightly higher oil prices, suggests that investor’s economic demand expectations rose slightly during the week, despite the lackluster FOMC result. Next week’s record supply of 2-year, 5-year and 7-year Treasury notes should weigh on the rates market, particularly with Japan on holiday on Monday and Tuesday. 
At the shorter end of the interest rate curve, Eurodollar futures rates ticked-up in the +4-year area to suggest one interest rate increase in 2024 and another in 2025. This is hardly consistent with a meaningful attempt to overshoot a 2% inflation target and begs the question of how the Fed can achieve this target with its current policy toolkit. It appears as if lower-for-longer is a five- to seven-year look forward.   
In-line with steepening of the US Treasury yield curve and a return of risk sentiment in Asia, ten bond spreads tightened for every one that widened during the week. The tightening to widening ratio was more than three times the prior week. Almost every bond in our +100-universe tightened. Bank of China’s 2025 callable AT1 bond outperformed all others, tightening by 17bps. Bank Of China (BCHINA)AT1 bond has become somewhat of a bellwether of Asia bank risk sentiment over the last few weeks.
In bank debt capital markets, over US$15 billion of securities were issued as banks continued to take advantage of low rates and sustained demand. Amongst Asia-centric banks, Bangkok Bank, Bank of China, HSBC Holdings, ICBC and Sumitomo Mitsui Financial Group brought US$ bonds during the week. We expect ICBC's (H) (1398 HK) new AT1 note to trade in-line with BCHINA’s AT1 over the near term. HSBC’s new note came at a meaningful 20bps new issue concession relative to its holding company Senior Unsecured curve. We suspect that HSBC Holdings' (HSBA LN) new issue bond will tighten by at least 10bps relatively quickly. Please see Bangkok Bank’s New AT1 – Overweight on Relative Value for our views on this debt issuer and its new security.
Market Outlook The current issue is that Fed policy is now more unpredictable, absent greater guidance on how its new longer-run strategy will influence near-term policy decisions. This past week’s FOMC meeting disappointed by not adding depth to the monetary policy canvas. As such, risks may now be materially higher for EM credit. Until now, perceptions were that lower-for-longer interest rates would cause US$-investors to reach for yield, in turn raising demand for longer maturities and non-US assets. Following Fed Chairman Powell’s speech, if the Fed permits long bond yields to rise, then marginal flows into emerging market credit may slow on increasing dollar strength.
Inside: In this weekly, we elaborate on these themes as we review global credit index levels, interest rates, Eurodollar futures and fund flows as well as bank bond spread moves and recent debt issuance to identify possible investment opportunities and potential pitfalls in Asia-headquartered bank bonds.

Bank Credit Weekly: Risk Sentiment Returns as Markets Ignore FOMC Disappointment

Silver Point

Thomas J. Monaco

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*Kudos For Better Bottom-line:HSBC North America (5.HK/HSBA.LN) [HSBCNA] HSBCNA deserves some kudos for its positive 2Q20 earnings result of USD 48.7 mn during the height of the pandemic against a 1Q20 loss of USD 1.2 bn. The problem with these results, in our view, is that they appear incredibly managed, as revenues are increasingly reliant on lower quality capital markets revenue sources at 36.0% (27.6% in 1Q20). In other words, we do not believe 2Q20 these results are sustainable;*Hong Kong Tax Rate Continues To Mask Management’s Global Mistakes: When your core subsidiary in Hong Kong has a statutory corporate tax rate of 16.5% and the organization is not subject to global taxation, low taxes can mask the many mistakes that HSBC makes – particularly in the USA; and*HSBCNA Should Be Sold: HSBCNA is a chronic mess, and there is absolutely no need for HSBC to maintain a full commercial/retail banking presence in the US. It cannot earn a positive return under its current structure; credit is again about to fall off a cliff; does not earning; NIMs are among the lowest in the USA; and capital is shortly about to fall below regulatory guidance. Further, the bad acquisitions and regulatory headaches should spur management to cut and run in the US. Knowing HSBC management as we do, they will continue making the same mistakes over and over again.

*Kudos For Better Bottom-line:HSBC North America (5.HK/HSBA.LN) [HSBCNA] HSBCNA deserves some kudos for its positive 2Q20 earnings result of USD 48.7 mn during the height of the pandemic against a 1Q20 loss of USD 1.2 bn. The problem with these results, in our view, is that they appear incredibly managed, as revenues are increasingly reliant on lower quality capital markets revenue sources at 36.0% (27.6% in 1Q20). In other words, we do not believe 2Q20 these results are sustainable;*Hong Kong Tax Rate Continues To Mask Management’s Global Mistakes: When your core subsidiary in Hong Kong has a statutory corporate tax rate of 16.5% and the organization is not subject to global taxation, low taxes can mask the many mistakes that HSBC makes – particularly in the USA; and*HSBCNA Should Be Sold: HSBCNA is a chronic mess, and there is absolutely no need for HSBC to maintain a full commercial/retail banking presence in the US. It cannot earn a positive return under its current structure; credit is again about to fall off a cliff; does not earning; NIMs are among the lowest in the USA; and capital is shortly about to fall below regulatory guidance. Further, the bad acquisitions and regulatory headaches should spur management to cut and run in the US. Knowing HSBC management as we do, they will continue making the same mistakes over and over again.   

<a href="https://www.smartkarma.com/entities/bank-of-east-asia-ltd" target="_blank" data-smartkarma-citation="entities:341:1" rel="noopener">Bank of East Asia's (BNKEA)</a> strategic review may have an outsized valuation impact on the firms’ Additional Tier 1 (AT1) bonds given the potential for a material change in the banks’ business profile. We recommend that investors pre-position for the strategy update announcement with an AT1 barbell strategy. Our preference is to be longer the 2022 callable AT1 bond than the 2024 callable bond. Given current trading levels, we believe the 2022 and 2024 bonds may have asymmetric outcomes from this announcement to generate more potential upside and downside, respectively.  Bank of East Asia announced that it was undertaking of a strategic review in early March and in late May the bank communicated that it will update the market on the status of this review before the end of September.The stated objective is to identify potential strategic transactions which would enhance the value of the bank’s existing businesses and assets as well as strategic alternatives for potentially non-core assets. It has been actively working with Goldman Sachs as its advisor.Notably, on June 2, the Financial Times published a story suggesting that the bank was in early discussions with financial and strategic investors regarding the sale of its Hong Kong and Mainland China banking businesses. Later that day, BNKEA clarified that it had no external discussions regarding the disposal of these businesses and also stated that no decisions had been made under the strategic review. Previously, the bank had also stated that the review may or may not result in any transaction. However, since activist hedge fund investor, Elliot Management Corporation, is thought to have prompted this review, we expect some action.As such, within this note we assess the various business segments at BNKEA and present our expectations regarding how the AT1 bond market may interpret several of the potential strategic outcomes from this review. Forewarned is forearmed.

Bank of East Asia's (BNKEA) strategic review may have an outsized valuation impact on the firms’ Additional Tier 1 (AT1) bonds given the potential for a material change in the banks’ business profile. We recommend that investors pre-position for the strategy update announcement with an AT1 barbell strategy. Our preference is to be longer the 2022 callable AT1 bond than the 2024 callable bond. Given current trading levels, we believe the 2022 and 2024 bonds may have asymmetric outcomes from this announcement to generate more potential upside and downside, respectively.  Bank of East Asia announced that it was undertaking of a strategic review in early March and in late May the bank communicated that it will update the market on the status of this review before the end of September.The stated objective is to identify potential strategic transactions which would enhance the value of the bank’s existing businesses and assets as well as strategic alternatives for potentially non-core assets. It has been actively working with Goldman Sachs as its advisor.Notably, on June 2, the Financial Times published a story suggesting that the bank was in early discussions with financial and strategic investors regarding the sale of its Hong Kong and Mainland China banking businesses. Later that day, BNKEA clarified that it had no external discussions regarding the disposal of these businesses and also stated that no decisions had been made under the strategic review. Previously, the bank had also stated that the review may or may not result in any transaction. However, since activist hedge fund investor, Elliot Management Corporation, is thought to have prompted this review, we expect some action.As such, within this note we assess the various business segments at BNKEA and present our expectations regarding how the AT1 bond market may interpret several of the potential strategic outcomes from this review. Forewarned is forearmed.

Bank of East Asia: Strategic Review to Set AT1 Value; Forewarned Is Forearmed

Asia high yield remained in risk-on mode while supply indigestion negatively impacted US market performance.  A declining US dollar continued to aid Asia’s high yield performance. Some investors have suggested that Asia’s market is beginning to look overbought. We disagree. Room remains for additional high yield performance in Asia. The US high yield index widened on the sheer volume of issuance in a thinly traded market which offset continued flows into non-investment grade credit. Sales of new U.S. high-yield bonds were the second highest on record. Asia’s materially lower primary issuance helped to drive spread levels tighter, as investors continued to search of yield, globally. Meanwhile, in bank debt capital markets, all global US$-issuance came from China-centric banks during the past week.Concurrently, in rate markets, record supply also negatively impacted US Treasury yields, as these rose across the curve. The curve steepened with 10-year bonds rising faster than 2-year notes. Curve steepening is generally associated with increased bank net interest income from maturity transformation.Three-month US$ Libor rose 3bps week-on-week in the largest increase since March. The Libor increase was primarily driven by an increase in the supply of commercial paper, after a dry spell, rather than a sign of returning stress. The resulting Treasury Euro-Dollar (TED) spread, a proxy for bank net interest margins, closed the week at its widest level since early June.With US$ Treasury bond yields rising (prices falling) on increased supply, Asia bank credit outperformed risk-free securities as thirteen bonds spreads tightened for every one that widened during the week. China-centric banks were prevalent amongst those that performed best. Even Philippine bank bonds tightened despite the passage of a pandemic relief bill which proposes a year-long loan payment holiday. Concurrently, the option adjusted spread of each Turkish bank bond widened as currency weakness translates into investor concern that this may lead to weaker bank credit quality in Turkey’s highly dollarized economy. An accident here could have spill-over impacts on other EM markets. Market Outlook Risks remain for this market. These include rising U.S.-China geo-political tensions, resurgent Coronavirus activity, the global growth outlook, and the outcome of the US election. In this background, concerns are being voiced on the potentially unsettling bond market impact from a successful coronavirus vaccine. We expect the Fed’s moves to have a more lasing affect. In addition, as we move through the US election, downward moves in US Treasury rates may occur, given potential investor uncertainty on policy direction, post-election. One cannot rule out a return to negative short-term US$ interest rates, as occurred in mid-March. Fortunately for credit investors, the Fed’s powder remains very dry with respect to utilizing its Secondary Corporate Credit Facility and this programme was recently extended to year-end.Inside: In this weekly, we review global credit index levels, interest rates and fund flows as well as bank bond spread moves and recent debt issuance to identify possible investment opportunities and potential pitfalls in Asia-headquartered bank bonds.

Asia high yield remained in risk-on mode while supply indigestion negatively impacted US market performance.  A declining US dollar continued to aid Asia’s high yield performance. Some investors have suggested that Asia’s market is beginning to look overbought. We disagree. Room remains for additional high yield performance in Asia. The US high yield index widened on the sheer volume of issuance in a thinly traded market which offset continued flows into non-investment grade credit. Sales of new U.S. high-yield bonds were the second highest on record. Asia’s materially lower primary issuance helped to drive spread levels tighter, as investors continued to search of yield, globally. Meanwhile, in bank debt capital markets, all global US$-issuance came from China-centric banks during the past week.Concurrently, in rate markets, record supply also negatively impacted US Treasury yields, as these rose across the curve. The curve steepened with 10-year bonds rising faster than 2-year notes. Curve steepening is generally associated with increased bank net interest income from maturity transformation.Three-month US$ Libor rose 3bps week-on-week in the largest increase since March. The Libor increase was primarily driven by an increase in the supply of commercial paper, after a dry spell, rather than a sign of returning stress. The resulting Treasury Euro-Dollar (TED) spread, a proxy for bank net interest margins, closed the week at its widest level since early June.With US$ Treasury bond yields rising (prices falling) on increased supply, Asia bank credit outperformed risk-free securities as thirteen bonds spreads tightened for every one that widened during the week. China-centric banks were prevalent amongst those that performed best. Even Philippine bank bonds tightened despite the passage of a pandemic relief bill which proposes a year-long loan payment holiday. Concurrently, the option adjusted spread of each Turkish bank bond widened as currency weakness translates into investor concern that this may lead to weaker bank credit quality in Turkey’s highly dollarized economy. An accident here could have spill-over impacts on other EM markets. Market Outlook Risks remain for this market. These include rising U.S.-China geo-political tensions, resurgent Coronavirus activity, the global growth outlook, and the outcome of the US election. In this background, concerns are being voiced on the potentially unsettling bond market impact from a successful coronavirus vaccine. We expect the Fed’s moves to have a more lasing affect. In addition, as we move through the US election, downward moves in US Treasury rates may occur, given potential investor uncertainty on policy direction, post-election. One cannot rule out a return to negative short-term US$ interest rates, as occurred in mid-March. Fortunately for credit investors, the Fed’s powder remains very dry with respect to utilizing its Secondary Corporate Credit Facility and this programme was recently extended to year-end.Inside: In this weekly, we review global credit index levels, interest rates and fund flows as well as bank bond spread moves and recent debt issuance to identify possible investment opportunities and potential pitfalls in Asia-headquartered bank bonds.

Bank Credit Weekly: Asia Remains Risk-On as Supply Indigestion Impacts US Markets

Research and consultancy, Tabbush Report

Daniel Tabbush

Research and consultancy

Tabbush Report

We provide research and consultancy on Asian banks. Our focus is on what we call “Asian bank research, without the noise.” We are interested in the most critical swing-factors for banks, the NPL and credit cycle, and where we believe there is a gap between perception and reality. We often focus on the less studied components of bank financial statements.  Our research is highly thematic, sometimes examining unlisted banks and companies as a window on mainstream banks. 

Being independent allows us to look at smaller banks, often overlooked by others. Analysis of BIS bank guidelines in the context of Asia, is also a focal point, while we also analyze global banks operating in the region. We use what we believe is the most comprehensive, reliable financials database, SNL Financial. S&P Capital IQ augments our database, with corporate data and CEIC, with economics. 

Asian bank research, without the noise.

There appears to be a recurring theme with banks, whereby those with high credit costs early in the year relative to recent years, see a marked decline in the June quarter. The opposite also appears to be the case for some, and <a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings (HSBA LN),</a> if not the poster-child is a good example. For this global behemoth, where even in the best times its returns are often subpar, its underwhelming operating results should not surprise.

There appears to be a recurring theme with banks, whereby those with high credit costs early in the year relative to recent years, see a marked decline in the June quarter. The opposite also appears to be the case for some, and HSBC Holdings (HSBA LN), if not the poster-child is a good example. For this global behemoth, where even in the best times its returns are often subpar, its underwhelming operating results should not surprise.

United Kingdom

HSBC Holdings plc is a British universal bank and financial services group that provides banking and financial products and services worldwide. It offers retail, commercial and institutional banking, global banking and markets, wealth management, and private banking. The company was founded in 1865 and is headquartered in London, United Kingdom.

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HSBC (HSBC US)

Bank Credit Weekly: Risk Sentiment Returns as Markets Ignore FOMC Disappointment

The lack of shock and awe outcome from this week’s FOMC meeting did not derail market sentiment as risk tolerance returned to the fixed income...

Hank Calenti, CFA

HSBC Holdings – FSBO

*Kudos For Better Bottom-line: HSBC North America (5.HK/HSBA.LN) [HSBCNA] HSBCNA deserves some kudos for its positive 2Q20 earnings result of USD...

Thomas J. Monaco

Bank of East Asia: Strategic Review to Set AT1 Value; Forewarned Is Forearmed

Bank of East Asia's (BNKEA) strategic review may have an outsized valuation impact on the firms’ Additional Tier 1 (AT1) bonds given the potential...

Hank Calenti, CFA

Bank Credit Weekly: Asia Remains Risk-On as Supply Indigestion Impacts US Markets

Asia high yield remained in risk-on mode while supply indigestion negatively impacted US market performance. A declining US dollar continued to...

Hank Calenti, CFA

HSBC – Unimpressive

There appears to be a recurring theme with banks, whereby those with high credit costs early in the year relative to recent years, see a marked...

Daniel Tabbush

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