Outlook 2017: High-grade supply to stay robust; bond views mixed; mergers remain on forefront

By Cristal Cody

Eureka Springs, Ark., Dec. 30 – U.S. investment-grade bond issuance hit about $1.28 trillion in 2016 and is expected to stay tentatively the same in 2017 with about $1.2 trillion of supply forecast.

Market sources find it difficult to foretell total annual volume for the new year due to a myriad uncertainties, including policy changes under incoming U.S. president-elect Donald Trump.

While credit spreads modestly weakened following the Nov. 8 presidential election, Treasuries weakened significantly. The 10-year benchmark note yield was up about 80 basis points by December at 2.58% and had risen about 125 bps since the post-Brexit low on July 8, BofA Merrill Lynch reports.

“We believe we are entering a new rate environment, as the Fed continues tightening and single-party control of the U.S. government seems likely to lead to more government spending,” according to Wells Fargo Securities LLC analysts.

The Federal Reserve signaled in December that it expects to raise rates three times in 2017 after it hiked the benchmark rate by 25 bps at its last monetary policy meeting of 2016.

“We expect the new rate environment to bring more volatility to fixed income, leading to more volatility in fund flows,” Wells Fargo Securities analysts said in a note. “Given the extension in duration in the U.S. investment grade market since 2010, we see unexpected rate moves – and the potential for mark-to-market losses in the IG market – as a risk to all credit assets.”

Busy January ahead

Still, issuance is expected to be strong out of the gate in January with syndicate sources forecasting about $95 billion to as much as $145 billion of supply for the first month of 2017.

“Things should be probably pretty busy” in January, one syndicate source said.

January 2016 corporate deal volume hit a record $127 billion that month, thanks in part to Anheuser-Busch InBev Finance Inc.’s $46 billion bond sale, the second largest on record.

“January is always a robust issuance month, and January 2017 will be no different,” said Ronald Quigley, head of fixed income syndicate, primary sales and FIG/utilities DCM at Mischler Financial Group, Inc. and author of the “Quigley’s Corner” report. “In fact, including SSA issuance we may likely see $150 [billion]-$160 [billion] next month.”

Mixed bond views

BofA Merrill Lynch analysts expect a farewell to utopia in credit in 2017 and are bearish on investment grade for the next three to six months.

“After an extraordinary year for credit investors, total returns in 2017 will likely be a sobering 3.5% to 4.5% for U.S. high-grade bonds and 4% to 5% for U.S. high yield,” BofA Merrill Lynch analysts said in a report. “Still, our preferred asset class is U.S. high-grade, where the drop-off in supply could be very bullish.”

While corporations are expected to benefit from tax cuts under Trump, he also has voiced anti-globalization rhetoric and opposition to industry consolidation, including AT&T Inc.’s $85.4 billion cash and stock acquisition of Time Warner Inc. that was announced in October.

The energy industry, meanwhile, is expected to see a boon under Trump, sources report.

“Exporters such as technology may be losers if the Trump administration implements an anti-globalization agenda,” BofA Merrill Lynch analysts said.

Piper Jaffray analysts report in their 2017 fixed income outlook that lower tax brackets are just one of many likely policy adjustments that will impact the bond markets in 2017 due to Trump’s win.

“Markets are convinced that president-elect Trump will bring stronger economic growth and higher inflation,” according to Piper Jaffray. “In our view the recent jump in yields does not signal the beginning of a bond bear market, but rather it is an overreaction to the election results. The market expects GDP growth to average 2.3% in 2017; however, in our view growth will average closer to 1.7%.”

2016 supply strong

The past year saw more than a handful of multi-billion-dollar high-grade deals price from January through November with proceeds used to repay debt, to fund acquisitions or for general corporate purposes.

Apple Inc. sold a $12 billion nine-part offering of senior notes (Aa1/AA+) in February.

Dell, Inc. priced $20 billion of senior secured notes (Baa3/BBB-/BBB-) in six tranches in May to fund its acquisition of EMC Corp.

Walgreens Boots Alliance Inc. also tapped the market in May with a $6 billion five-tranche sale to help fund its acquisition of Rite Aid Corp.

Oracle Corp. sold $14 billion of senior notes (A1/AA-) in five parts in June.

Teva Pharmaceutical Finance Netherlands III BV priced $15 billion in six series of fixed-rate senior notes (Baa2/BBB) in July to help fund its acquisition of the generics business of Allergan plc.

Microsoft Corp. priced $19.75 billion of senior notes (Aaa/AAA) in seven parts in August.

Shire Acquisitions Investments Ireland DAC sold $12.1 billion of senior notes in four tranches in September.

Abbott Laboratories priced $15.1 billion of fixed-rate senior notes (Baa3/A+) in six parts in November to help in part to finance the cash portion of its acquisition of St. Jude Medical, Inc.

M&A stays in focus

Several companies remain in the 2017 investment-grade bond deal pipeline to fund planned acquisitions.

Algonquin Power & Utilities Corp. is on the calendar with an expected offering to fund its acquisition of Empire District Electric Co. and subsidiaries in a cash transaction valued at $2.4 billion. The acquisition is expected to close in the first quarter of 2017.

Great Plains Energy Inc. intends to bring new debt to acquire Westar Energy Inc., a deal expected to close in the spring. The company anticipates financing to include $4.4 billion of new debt.

Anthem Inc. plans $22 billion of term loans and debt to finance its takeover of Cigna Corp.

Also, Twenty-First Century Fox, Inc. is preparing to price about $10 billion of new debt to fund its cash offer to acquire Sky plc, a transaction that is expected to close by late 2017.

“We expect the new rate environment to bring more volatility to fixed income, leading to more volatility in fund flows.” – Wells Fargo Securities analysts in a note

“After an extraordinary year for credit investors, total returns in 2017 will likely be a sobering 3.5% to 4.5% for U.S. high-grade bonds and 4% to 5% for U.S. high yield.” – BofA Merrill Lynch analysts in a report

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