Supply forecasts cut towards €100bn on effects of Covid-19
With euro benchmark issuance of around €60bn in the first five months of the year down €25bn versus 2019, and Covid-19 and relief measures set to further slow supply, analysts have lowered their forecasts, with one seeing issuance at risk of dropping below €100bn for the first time since 2013.
Banks are generally expected to continue taking advantage of central bank facilities rather than tapping the capital markets for liquidity. Already in the first five months of the year euro area banks issued some €150bn of non-benchmark covered bonds, mostly to be used as collateral for Eurosystem refinancing operations, according to Barclays analysts, who also noted that May was the third month in a row in which non-benchmark issuance exceeded benchmark issuance. In the starkest example of the trend, they noted that for the first time in the 25 year history of the Jumbo Pfandbrief, no benchmark Pfandbrief issuance occurred in both April and May.
“Although 2020 started with strong issuance activity,” said Barclays’ analysts, “supply collapsed in March, when historically (over the past 15 years) €10bn of new euro benchmark covered bonds from euro area countries have been placed in the market – but only €3bn was issued this year. Since March, gross supply has remained weak and consequently, in the course of May, the annual supply trend has fallen behind the trends observed in previous years.”
Unlike many analysts, Barclays supply forecast relates to not just euro benchmarks, but issuance across euros, US dollars, Swiss francs, sterling, Australian dollars and Canadian dollars. They now forecast full-year supply of €135bn-equivalent, €40bn less than their initial €175bn forecast.
“Under current conditions,” it added, “we see no sign that covered bonds will regain their role as the preferred capital market funding instrument in times of elevated risk aversion and uncertainty.”
Central bank funding considerations have also been central to ING head of financials research Maureen Schuller lowering her forecast for euro benchmark issuance from €125bn for the year to €110bn.
“Considering the extremely favourable terms of the TLTRO-III, predominantly between 24 June 2020 and 23 June 2021, it seems unlikely even covered bonds will be seen as a competitive source of funding,” she said.
A significant slowing of housing markets and reduced demand for residential mortgages in the wake of Covid-19 is another reason cited in downward revisions of supply forecasts. The ECB’s April 2020 euro area bank lending survey for the first quarter of 2020 suggests banks are expecting a sharp drop in demand for housing loans, according to Joost Beaumont, senior fixed income strategist at ABN Amro.
“At the same time, banks have reported tightening lending conditions for house purchases, which will likely also limit supply of new mortgages,” he said. “The overall impact will be that bank mortgage lending will slow down during the remainder of the year, coming out below expectations at the start of the year and reducing bank funding needs.”
In addition to cheaper central bank refinancing, this has led ABN Amro to lower its euro benchmark supply forecast by €27bn, from €140bn to around €113bn, taking net supply for 2020 negative by €6bn. Furthermore, taking into account Eurosystem covered bond purchases under APP and PEPP – estimated at around €100bn – net supply will shrink €106bn – the most negative amount since 2015.
“Even if the Eurosystem’s net purchases will turn out to be much lower than we expect,” Beaumont added, “net supply of euro benchmark covered bonds will still remain deeply negative.”
Net supply of euro benchmark covered bonds (EUR bn)
*2020 estimate; Source: Bloomberg, ECB, ABN Amro
Crédit Agricole analysts are less pessimistic, with a euro benchmark forecast of €120bn of supply at year-end, down just €10bn-€15bn from an initial €130bn-€135bn forecast.
“We have been asked whether we believe issuance volumes will remain below €100bn for the first time since 2013,” they said. “In our view, the year is still long, there is a large pool of issuers that has yet to do anything in the market, and once spreads have stabilised, banks will opportunistically look at new issuance.”
Indeed, according to Commerzbank analysts, as of 18 May, only 45 banks had placed new euro benchmark deals or tapped them in syndicated format this year, a noticeably lower number than in the past six years.
But while they noted this could be interpreted as indicating large catch-up potential for the rest of the year from a pool of inactive issuers, they deem this “a pretty optimistic view”.
“Instead, we believe that this observation means that many potential candidates have decided against public covered bond issuance for the time being and will probably not abandon these plans too quickly,” said Commerzbank’s analysts. “And those that have already been active may not need much additional funding.
“These data therefore make us rather pessimistic about the issuance prospects for the coming weeks and months.”
They forecast around €35bn of euro benchmark issuance for the rest of the year, bringing it to a total of around €90bn.
Note: the analysts’ forecasts are mainly drawn from research published from mid-May to the beginning of June.