Analysis-financing conditions pass the global sales test, so far by Reuters

By Yoruk Bahceli, Matt Tracy and Emma-Victoria Farr

(Reuters) – A tumultuous sell-off in financial markets this month barely dented global funding conditions, but the risk of further volatility means borrowers are not out of the woods yet.

Equity and corporate debt markets recovered some of their early August losses on US recession fears and the unwinding of a popular yen trade.

However, they remain significantly weaker than a month ago, with the US stock index still 5% below its July peak after an initial decline of nearly 10%. European stocks took a similar hit.

Meanwhile, higher- and lower-rated corporate bonds have given up much of the decline this year in the risk premium they pay over government bonds.

But funding conditions – the ease with which borrowers can get funding – have not tightened enough, even at the height of the selloff, to raise concerns about a deeper economic slowdown that could hasten the central bank’s interest rate cuts.

“We haven’t seen moves big enough to materially change funding conditions for corporates or households,” said Chris Jeffrey, head of macro strategy at Legal & General Investment Management.

Indeed, a closely watched gauge of US financial conditions compiled by Goldman Sachs shows that while they have tightened sharply since mid-July, conditions remain historically loose and more accommodative than in most of last year.

Global stocks, for example, are still up nearly 10% this year and credit spreads are tighter than they were in 2023.

Goldman estimates that each potential additional 10% sell-off in stocks would reduce US growth over the next year by just under half a percentage point, while associated moves in other markets, if stocks were to collapse, could take a hit total of just under one percentage point. .

So with US growth still above 2%, it would take a much larger decline in equity markets to cause significant economic pain that spills over globally.

PRICE REDUCTIONS

With the US Federal Reserve set to start cutting interest rates soon and other central banks already doing so, the key takeaway from recent market distortions is a fall in borrowing costs.

have fallen more than 50 basis points since early July, while UK and German government bond yields fell more than 30 basis points each as investors bet on steeper rate cuts.

This bodes well for borrowers. U.S. investment-grade corporate bond yields have also fallen 50 bps since early July.

Caps raised $45 billion in US bond sales last week, according to LSEG’s IFR – topping analysts’ expectations and a sign of confidence amid the sell-off.

There was also more bond selling in Europe than a year ago, while the US market started the week strongly.

“It doesn’t look like access to credit is really an issue right now,” said Idanna Appio, portfolio manager at First Eagle Investment Management.

“Really, lower Treasury yields open a window for companies to come into the market,” said Appio, a former Fed economist.

Even junk bond yields have fallen 37 bps since the start of July, meaning conditions have become more favorable for lower-rated companies, which raised $7.2 billion in US bond sales last week.

WEAK POCKETS?

Expectations that volatility will remain high, however, create uncertainty for borrowers.

Wall St’s “fear gauge” fell below 20 points this week to its lowest level this month, but remains well above its January-July average.

And with August typically quiet for initial public offerings, the impact on equity fundraising — which typically takes a hit when volatility rises — has yet to be seen.

Dealmakers said they were bullish as long as markets remained calm, but given the uncertainty ahead.

Javier Rodriguez, global head of value creation at KPMG, did not rule out a slowdown or halt in ongoing IPO deals.

“There is no certainty as to (what) the final picture might look like, but a potentially cold market compared to the last 18 months,” he said.

In credit markets, while money flowed into investment-grade bonds last week, junk bonds saw outflows, according to BofA, signaling caution about weaker borrowers.

With global high-yield bond sales hitting their highest level in the first half of 2021, according to LSEG, the outflows are unlikely to alarm borrowers just yet.

But some were considerable. Outflows from US leveraged loans, whose investors are hit when interest rates fall, were the largest since the height of the COVID pandemic in March 2020, according to JPMorgan. The impact of the carry trade on liquidity conditions also remains a risk to watch.

“Once shipping transactions fall, funds are fleeing the countries and assets where they finance economic activity,” said BCA Research’s chief European strategist, Mathieu Savary. “As a result, liquidity conditions tighten where growth is generated, which hurts global economic activity.”