Credit update December 16, 2013

Stocks declined over the week on QE taper fears; the unemployment numbers are coming closer to the mark and the taper “hint” is seen coming this month. Although inflation is still benign and could allow for continuation of the program, the continued positive numbers on jobs and manufacturing are pushing decision-making closer to a “taper”.

Stocks are ready to make a transition from outright risk support from the Fed to a growth-oriented model; it needs the finality of the taper to digest this fact and move ahead. We have had knee-jerk reactions to a taper announcement in mid-year and hopefully this time, there will be a more-mature acceptance of the taper and its ramifications. After some 40% return in the S&P since August 2011, fueled in a good chunk by the QE programs, some sort of sanity viz. correction needs to happen before the growth story ignites the next cycle of stock performance. Because after all, QE taper means growth is here and the Fed can take its foot off the gas pedal.

High Yield ended the week unchanged and is holding onto a 7% YTD return. If it continues this performance in 2014, it will look good vs. stocks (consensus 10% return for 2014) given its coupon income and being higher up in the cap structure. In credit news, APC took a large hit as a judge ruled that KMG is liable to $5-14 billion of liabilities transferred to Tronox. 30-yr paper widened as much as +25 bps; meanwhile, the stock was down as much as 10 points. Since the credit is highly levered, a downgrade to high yield is not out of the question. Also, AIG reached a deal with AER (AerCap) to sell ILFC, after an earlier deal (not with AER) had fallen through.

Spreads:

Investment grade +69 bps over swaps (unchanged week over week)

High yield – 5.6% yield to worst (unchanged week over week)

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