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Examining available roll for 6-year/5-year financial bonds

| November 22, 2019

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.

Heading into year-end, there is attractive yield pick up available among aging bonds in the Bank/Financial sector in the 6-year part of the curve that are scheduled to roll into the more liquid 5-year segment. Yield pick up is highest among Broker/Asset Managers and Banks, while the efficiency and price consistency among Insurance and REIT issuers results in fewer opportunities to take advantage of the roll.

Exhibit 1. US public bank & thrift aggregate debt maturity profile ($ millions); 5-year debt is among the most concentrated tranches in the Bank sector.

Source: S&P Global Market Intelligence

IG corporates, A-rated Financials and BBB-rated Financials yield (Exhibit 2) and spread curves are mostly flatter than where they stood at the beginning of September, as the front-end of the UST curve has since adjusted to revised rate expectations for 2020. Still, the 5s/7s part of all three corporate yield curves are steeper over those nearly three months of trading, as are the spread curves (Exhibit 3).

Exhibit 2. Current yield curves

Note: The highlighted area corresponds to the 5- to 7-year duration bucket. Source: Amherst Pierpont, Bloomberg LP

The study focuses on index-eligible IG bonds with 6-year final maturity or 6-year call periods, mostly to capture the more liquid, and very common bond deals that have been issued with TLAC-enhancing one-year calls. These bonds lose TLAC-eligibility in their final year, and trade with a high likelihood that the call date will more than likely be their effective maturities. All the 6-year bonds selected still trade versus the 10-year UST Benchmark (T 1 3/4 11/15/29) according to TRACE. Within Financials, a total of just under 100 bonds were selected across the Banks, Broker/Asset Manager, Insurance, and REITs subgroups.

Exhibit 3. Current spread curves

Note: The highlighted area corresponds to the 5- to 7-year duration bucket. Source: Amherst Pierpont, Bloomberg LP

Those bonds were compared against the more suitable on-the-run 5-year notes for each issuer  with either a late 2024 or 2025 maturity, or a 5-year likely call date. Bonds with matching structures (senior, subordinated, secured) were chosen, with an emphasis on the more liquid deals where more than one is available. The difference in G-spread was examined for each issuer to determine the overall spread pick versus the curve from the 6-year note to the 5-year note. The available spread pick on a monthly basis was calculated to help eliminate any significant differences in maturity; and care was taken to note the dollar price premiums or discounts, as well as deal sizes, which also have material influence on valuation.

The main takeaway is that though steeper than three months ago, this remains a highly efficient part of the spread curve for each of these market segments. Broker/Asset Managers offered the best overall picks, but this is not surprising given the less liquid names available and the limited number of issuers within the study. Insurance appeared the most efficient (offering the least roll pick), while REITs also surprisingly offered limited pick-up overall, as many of the issuers in the IG REIT segment tapped the market in consecutive years, lending a lot of price consistency among issuers. Banks offered second most roll opportunity, despite the highly defined and liquid markets for the biggest issuers. Yankee banks, and particularly subs, accounted for the largest portion of this apparent spread opportunity.

Exhibit 4. Sector averages for yield pick from 6-year to 5-year maturities

Source: Amherst Pierpont, Bloomberg/TRACE G-spread indications as of 11/21/19

A sample of the most attractive spread picks available within each of the Financial subgroups is shown in Exhibit 5. Again, the overall takeaway was that most segments exhibited a high degree of efficiency, with as little as <1 bp per month of roll, which often needs to be scaled down due to lack of liquidity and/or dollar price considerations.

Exhibit 5. Top available G-spread pick-up by sector, using roll to 5-year from 6-year maturities

Source: Amherst Pierpont, Bloomberg/TRACE G-spread indications as of 11/21/19

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