Listed Debt Securities Indices Performance Review
A lack of supply turns away listed debt security investors
During the month of June just under $2.4 billion of debt securities that had been listed on the ASX, were called or matured. Most of the money
released by the redemptions was left to find a new home and for the most part, it did not get re-invested in the market.
Among the maturing securities was the $633 million of nab subordinated notes (NABHB). This was old-fashioned Basel II subordinated debt that featured a call date and a subsequent final maturity date but could not be converted into ordinary equity should the bank be declared non-viable.
Some of this amount was rolled-over into a new Basel III compliant nab subordinated debt issue (NABPE) earlier in the year but the remainder was left to look for a new home. The Australia Ratings listed debt securities Composite index tells the story.
After adjusting for the departure of the Macquarie capital notes (MQGPA) from the index (as the call date is less than one year away) and the $334 million of distributions paid during the month (the index is an accumulation index) the capital value of the index actually fell by more than $92 million. The called or maturing securities were excluded from the index one year ago and thus if any of the funds released had been reinvested in the market, the capital value of the index would have increased.
Maturing securities exit market while issuance slows
Clearly, this didn’t happen. Moreover, the fact that it didn’t happen points to a change in investor sentiment towards the market.
Fundamental changes are impacting on the market with $9.1 billion of securities being called or maturing over the course of 2017. This is the largest annual volume of securities to exit the market, yet seen.
As at the end of June, $4.5 billion of securities have already departed the market but new issuance amounts to less than $3.5 billion, and no further issuance has been flagged.
In previous months, the expectation of a shortfall in supply has been driving up secondary market prices for the remaining securities. But while prices of some individual securities continued to rise in June, across the market as a whole this did not occur.
Investors appear to have reached the view that the market has become too expensive and are either sitting on the sidelines waiting for new issues to appear or have reinvested their funds elsewhere.
Blue index is the month's strongest performer
Looking at the performance of the individual Australia Ratings listed debt securities indices that make up the Composite index, the Red index tells the same story. The Red index is by far the largest of the individual indices and therefore the main influence on Composite index returns.
The Macquarie Capital notes were also removed from the Red index, which is comprised of the most complex hybrid securities issued by financial institutions. Distributions made during the month were the driver of the 0.37% increased in value of the index as the weighted average security price observed fell to $102.34 from $102.82, a month earlier.
Some investors have taken profits on hybrid security prices that had become very elevated and perhaps it is this money that has been invested in other less risk securities available in the market. The simpler and higher ranking subordinated debt issues and senior debt issues have enjoyed some price appreciation over the month.
The Blue index was the strongest performer, increasing by almost 3% from the end of May. This performance is attributable to the very popular Qube subordinated note (QUBHA).
The Qube note would qualify as a simple corporate bond in every respect but one – it is subordinated. But it is a simple subordinated bond that does not come with deferrable but cumulative coupons or deferrable but non-cumulative coupons, and with variable or multiple maturity dates.
It is the only one of its type.
The Qube notes went ex-distribution during the month but the price increased to $107.40 from $105.40 over that time. Investors who have held the notes since listing in October last year, have so far enjoyed a total return of more than 10% on their investment.
The Yellow index returned almost 1.8% for the month, with the performance being driven by the continuing price appreciation of the Crown Resorts subordinated notes (CWNHA and CWNHB). These notes have been volatile performers in the past but as the threat of privatisation of the company has evaporated, and Crown has reduced its international exposure and returned its focus to its Australian businesses, the securities have enjoyed substantial price appreciation, particularly so for the CWNHB notes.
On a weighted average basis, the price of the securities increased over the month even though both went ex-distribution. However, the price of the CWNHA notes may be about to enter a period of relative weakness, as Crown Resorts announced in the last week of June the suspension of its buyback program, at least until its full year results are released in August.
The Orange index, which covers more complex corporate subordinated debt issues and Basel III compliant Tier 2 bank subordinated debt issues, returned 1.24%. Half of the constituents of the index went ex-distribution during the month but the weighted average security price across the constituents still increased to $103.28, from $102.50 at the end of May.
The weighted average price of securities in the senior ranking Green index increased to $104.25 from $103.66 over the same period, despite half of the constituents of this index going ex-distribution. The Green index returned just over 1% for the month.
Chart 1 presents the change in the weighted average yield of each index since the beginning of 2015. The yield is the inverse of the price performance.
Not surprisingly, the weighted average, annualised yield of the Red index increased to 5.51% from 5.27% over the month, and as the constituents of the Red index form the majority of the Combined index, this index also experienced an increase in yield to 5.22% from 5.08%.
Weighted average yields across the other indices continued to decline.
Source: ADCM Services, Ord Minnett
Debt Securities’ Level of Complexity (PCI):
Green - simple; Blue – relatively simple; Yellow – complex; Orange – more complex; Red – very complex; Black - Combined
Yellow index lead performance in June on year to date returns
Chart 2 presents the performance of the indices from the start of this year to the end of June.
At the half way mark the Yellow index stands-out with a total return of more than 3%. The Franked index, which includes all of the constituents of the Red index and those of the Orange index that pay franked distributions, follows with a total return of 2.42%.
The Red index has exceeded the return of the Combined index, which is weighed down by the weaker returns of the Orange and Green indices. In theory the Green index should produce the lowest returns being comprised of less risky senior ranking debt but the credit quality of some issuers in the index is less than investment grade and therefore must offer investors higher returns.
Nevertheless, the Green index has been the least volatile of the indices and therefore one of the stronger performers since inception at the end of December 2014. Performance this year has been constrained by some price weakness among constituents since the start of the year and the introduction of the new Villa World notes to the index.
The orange index has been adversely impact by compositional changes over the first half of the year and has been one of the most volatile since inception.
Source: ADCM Services, Ord Minnett
Green - simple; Blue – relatively simple; Yellow – complex; Orange – more complex; Red – very complex Dotted dark grey - Unfranked; Dotted light grey - Franked; Black - Combined