Global Credit Overview 2009

Investors are not expecting a quick recovery in credit markets. A rally is certainly not expected until the end of 2009. All eyes are now on lending standards with the majority of investors (64%) looking for banks to ease lending standards as an indicator of the turn in the economic crisis. A smaller number of investors cited a pickup in economic growth (14%), stabilization in US housing (9%) and improved liquidity in the structured credit market (9%) as the most important signals.

The investment landscape is radically changing and un-levered strategies will dominate the style of investing in credit markets in 2009 and into 2010. It is expected that real money and un-levered hedge funds (ie, distressed funds) to dominate flows in cash credit product.
The deleveraging spiral will continue into 2009, especially for banks and insurers.

Ironically, as equity valuations continue to decline, the leverage in many financial institutions will rise. This will put further pressure on asset disposals and funding A substantial 70-80% reduction in the size of the hedge fund industry is also expected. Bank proprietary trading will effectively cease as capital increasingly will be channeled towards bank dealer desks

Secondary market liquidity will remain low until repo funding costs start to abate and
dealer desk VaR appetite improves. Most activity in cash product will be driven by new issuance. Once funding and VaR appetite improves, the secondary corporate bond market will increase in importance. Primary issuance to be in the higher-quality names, where banks are comfortable lending their balance sheets to support the deal.

Reliance on state guarantees and central bank liquidity provisioning will remain the key source of funding for the banking sector. Given the massive supply and ongoing pressure on governments, spreads on bank guaranteed paper are set to widen.

Sovereign risk is a key focus, as governments have to increase their guarantees and bailouts to the financial, corporate and household sectors. With sovereign risk rising, risk premiums for financials and some corporate within the respective country will rise further.

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