The risk of a prolonged gas-supply crunch could unleash a drought in Europe’s credit market that a bigger-than-expected European Central Bank hike won’t fix.

That’s the concern among participants trying to do business in a market largely on pause amid widespread volatility and seasonal earnings blackouts. Sales across the region’s primary debt market are running more than 20% behind last year, while just a handful of non-financial companies are raising new debt as funding costs climb.

Uncertainty surrounding the outlook for global gas supplies is building, with Russia yet to confirm whether it will restart a key natural gas pipeline as planned this week. Even if the European Central Bank hikes its key rate by a bigger-than-expected 50 basis-points on Thursday, it may not be enough to settle nerves about the outlook for the world’s economy amid red-hot inflation.

“Gas-rationing remains the most important risk factor for now,” said Marco Stoeckle, head of corporate research at Commerzbank AG. “A 50 basis-point hike would certainly shift the balance back towards the central bank storyline, but I’d argue the gas storyline still has more disruptive potential in the short-term.”

The cloudy outlook and prospect of a global economic slowdown is forcing firms to take a cautious approach to fundraising. Spreads on euro-denominated investment-grade debt have more than doubled already this year.

“The big danger for European credit is what happens now with Russian gas,” said Max Castle, a fixed income portfolio manager at Mediolanum International Funds Ltd. “This could cause even more significant underperformance and I think many investors are awaiting more visibility on this in the next few weeks.”

The European Union remains worried that Russia will shut off gas supplies to the bloc in retaliation for multiple rounds of sanctions following the country’s invasion of Ukraine. It estimates a gas crunch could cut the bloc’s gross domestic product by as much as 1.5%, while Citigroup Inc. strategists are forecasting a 10% drop in European stocks in the next year in that scenario.

That’s bad news for firms needing to raise debt, with the dip in non-financial issuance already so severe that this July is set to be the slowest for corporate debt deals on record, according to data compiled by Bloomberg. Corporate deals may continue to be scarce until there’s a clear resolution to the gas supply crunch, Commerzbank’s Stoeckle said.

“I anticipate very limited activity in the coming weeks, followed by an earlier-than-usual restart should gas flow again,” he said.

Too Late

The ECB was once the credit market’s savior when it started corporate bond-buying in 2016, but this time round it’s faced criticism for doing too little, too late. Most economists surveyed by Bloomberg say this week’s long-mooted 25 basis-point rate hike should have already happened and there’s been a growing chorus of calls in recent days to double the planned increase to 50 basis points.

On Tuesday, ECB president Christine Lagarde was also said to be boosting efforts to forge agreement on a still-incomplete new crisis tool, people familiar with the matter said. It follows the end of corporate bond purchases just a few weeks ago, which had helped hold down euro-area borrowing costs for years.

French gaming studio Ubisoft Entertainment SA and Italian oil giant Eni SpA are among the firms biding their time and stepping back on raising debt, even after hiring banks for planned transactions as far back as April, according to data analyzed by Bloomberg. That’s despite some bankers saying they would work through the summer to keep the market ticking after the slowest first-half sales in over a decade.

“If you come out of the earnings blackout in August and conditions are stable following clear ECB direction -- we would certainly be recommending that people take advantage of that,” said Barry Donlon, head of EMEA debt capital markets at UBS Group AG.

Source:
courtesy of BLOOMBERG

by Damian Shepherd and Ronan Martin

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