One trade has seemed virtually foolproof over the past month: simply buy European corporate bonds and watch the returns roll in.
Euro-denominated investment-grade bonds have gained 1.8 percent since March 10, when the European Central Bank said it was planning to buy such debt in yet another unprecedented step to spur economic growth. Specific bonds have gained even more: Euro debt of Anheuser-Busch, for example, has gained 3.2 percent in the period while Vodafone Group's notes returned 3.3 percent, according to Bank of America Merrill Lynch index data.
This makes sense. The European investment-grade bond market isn't tremendously large, and the ECB's effort to buy billions of dollars of the debt each month could easily dominate demand and drive returns. The bonds that have performed the best seem to be likely enough candidates for potential ECB purchases: They're highly rated and were sold by European companies.
Unfortunately, gains may not be an airtight guarantee. As Wells Fargo analysts wrote in a report last month, "The devil is in the detail." There are political considerations, such as how to allocate corporate-debt purchases fairly among euro-zone countries, how to even define what constitutes a euro-zone entity and operational challenges, which the ECB needs to work out before the end of June, when it plans to begin buying the debt. Just the idea of the ECB's plan has rippled through markets globally, suppressing corporate-debt yields in the U.S. as well.
"Thus far, the ECB has done little to clarify its plan regarding many of these complexities," wrote the Wells Fargo analysts, Nathaniel Rosenbaum and George Bory.
It's unclear which companies will be considered European enough to qualify and precisely how much the central bank will try to buy each month. (Will it be $10 billion, or $70 billion, or just $3 billion?) Also unclear is whether the ECB will target new or existing notes.
Even if these details are disclosed, which they may never be, it may be difficult for the central bankers to navigate a market that by many accounts is becoming more difficult to trade in. European bond-trading volumes declined 14 percent in the first three months of 2016 compared with those in the period a year earlier, according to MarketAxess data cited in a Reuters article. Investors are increasingly turning to derivatives to express bullish wagers on euro-denominated corporate bonds as it gets harder for them to buy the underlying bonds, according to Bloomberg News reporter Katie Linsell.
Also, the program will start gearing up as big European banks including Credit Suisse and Deutsche Bank continue cutting their investment banks in the face of declining profits. This means fewer experienced traders will be on hand to maneuver around any distortions that the central bank purchases will create.
As anticipation grows for the ECB's bond-buying program, credit investors are becoming more worried that the actual purchases could underwhelm market expectations or fail to produce the desired results, which include spurring the issuance of corporate debt.
"We hear more and more clients expressing concerns about this," members of Goldman Sachs' trading desk wrote in a note to clients this week. "There is plenty of ECB execution risk."
It's clear that the ECB will effectively lower European corporate-bond yields over the long term. But that doesn't mean that buying any investment-grade bond in the region will be a sure winner, and the gains will most likely come with some short-term volatility.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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