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Bond of the Week: 22 February 2013

Bank bonds off their peaks, time to buy?

    

2012 was an unexpectedly good year for bank bonds. The second half of last year saw a sharp rally across the bank debt sector, particularly the long maturity ones. The Lloyds 6.5% 2040 bond (covered here),  Citigroup 6.5% 2030, and Barclays 7.125% 2049 all saw heady gains of more than 10 points. Some even traded at new all-time highs.

Since the start of the year, however, the price action of these debt have been more volatile. Gone are the days when investors of these bonds can sit back and count their portfolio gains with new long-term highs made week after week. The steady uptrends have given way to potential near-term tops.

But, following a setback, are these bank bonds a buy now? This is an interesting proposition because some of the them are still 'reasonably priced'. An example is the HSBC 5.375% 2033. The bond, issued in 2003, has about 20 years in maturity. (Note: In a low-yield environment, there are a few ways to increase the yield of an instrument. One is to move down the credit ladder, i.e., from A+ to B+; from investment grade to High-Yield. The other way is to stretch the maturity, i.e., moving from 5 to 20 years. Obviously, in highlighting this bond we are pursuing the second tactic.)  

As you can see below, this HSBC subordinate bond was hard hit over the past six weeks, losing about 6-8 points over the relatively brief period. This pushed the bond's underlying yield from 4.5% to a tad over 5.0%. As of yesterday, the bond yielded about 4.926%, making it about 180bps above the equivalent-maturity gilt yields. Given HSBC's relatively secure ratings (the bond is rated 'A' by Standard & Poor's), this spread is sufficiently comfortable. And if we look laterally, there is another long-maturity HSBC bond in the market, the 6.5% 2023. Ten years shorter than the 2033, this bond fetches 90bps less. Not bad, but the 2033 security is likely to offer higher gearing to interest rate moves.  

But why was the bond smashed up so badly just two months into 2013? Tougher regulatory environment may be one reason, keeping in mind the ongoing Libor scandal investigation. Profit taking is another. But given the strength of HSBC's balance sheet, the bank is likely to be a survivor even in a slow-growth economic environment. And, the price decline is moving towards the key level at 100, where some 'technical' support is envisaged.

Specifications:

·         Issuer - HSBC Bank Plc

·         Currency - GBP

·         Rank - Subordinated

·         Maturity - 22 Aug 2033 (20 years, 6 months)

·         Coupon - 5.375%

·         Ratings  - S&P (A); Moody's (A2); Fitch (A+)

·         Min. Denomination - £1,000

View:  Be it is stocks or bonds, the best time to buy  is often on setbacks. The correction in the bank debt sector recently is gradually opening up some windows of opportunity to pick up bonds on better prices. Not to forget is that the Bank of England could increase the £375 billion QE program later this year, once the new, dovish governor settles in. Like the Fed's QE3, buying long-term government bonds to suppress the long-term gilt yields may be one of BoE's QE tactics. As such, long-maturity bank bonds offer some gearing to this possibility. 

Dr Jackson Wong

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