Credit Traders Unwind a $20 Billion Wartime Short in Europe
(Bloomberg) — Credit investors have given up their wartime hedges on European companies.
They’ve unwound a short position on the Markit iTraxx Europe index of investment-grade credit default swaps that had swelled to more than $20 billion in recent months, and are now outright long, based on DTCC data compiled by Barclays Plc.
The reversal points to a marked improvement in sentiment given the prospects for an end to the war in the Middle East, with investors no longer positioning for wider spreads. Demand for protection in the junk bond market has also evaporated in the Markit iTraxx Crossover index of the most actively-traded on-the-run credits, where positioning is now “long risk.”
While Europe still lags other regions in terms of outright long positions, it’s narrowed the gap. Fund managers at Insight Investment Management and Andromeda Capital Management are getting behind the catch-up trade.
“We’re not saying it’s an amazing opportunity but there are some interesting pockets in Europe that I think are harder to find in the US,” said Alberto Gallo, chief investment officer and co-founder of Andromeda Capital. “In Europe there are a lot of unloved assets.”
For months, bearish positions in European credit had stood out for being among the largest across global markets. The spillover from the Iran conflict was in full view Thursday, when European policymakers unleashed the first interest-rate hike in almost three years, as a preemptive move against a broader inflation shock.
The net long positioning in the iTraxx Europe, at $11 billion, compares with $135 billion of long exposure in the CDX IG index of North American names, the Barclays data shows.
Andromeda sees opportunities in Ukraine, which is making advances in its war against Russia, and in Hungary, where Prime Minister Peter Magyar’s new pro-European government is set to unlock access to European Union funding. Insight likes European chemical companies, which are enjoying a rare advantage thanks to better access to raw materials its foreign rivals are struggling to get.
The US and Iran are edging closer to an agreement to reopen the Strait of Hormuz. The two countries may sign a deal on the sidelines of the Group of Seven world leaders summit next week, according to senior officials familiar with the matter. A deal has “never been closer,” Iran’s Foreign Minister Abbas Araghchi said Friday.
Still, there have been false dawns before. Insight Investment is staying cautious when it comes to companies under pressure from oil prices.
“We’ve exited names we believe are vulnerable to higher energy costs,” fund manager Cathy Braganza wrote.
Insight Investment also sees opportunity in the primary market, where issuers are paying up to refinance.
The Bloomberg Euro Aggregate Corporate Index is yielding about 3.5%, above where it started the year and up from the lows it reached before the start of the conflict in the Middle East, giving buyers a chance to lock in higher levels of income.
It’s a similar picture in the junk bond market, where the Bloomberg Pan-European High Yield Index is yielding about 5.73%, slightly above its year-to-date average of around 5.66%, according to data compiled by Bloomberg.
“Despite the geopolitical and macro uncertainty we continue to see issuers refinancing into debt with significantly higher coupons, providing us with opportunities to increase the average coupon and hence, carry for the fund, and providing us with ongoing investment opportunities,” Braganza wrote.
–With assistance from Helene Durand.
(Updates with latest developments on Iran-US agreement in 9th paragraph)
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