GLOBAL CREDIT BULLETS | Monday, 10th January 2022

Omicron – More cases, less lockdowns.
Over holidays, Covid cases exploded globally. The United States now records more than 1 million cases per day, similarly to Europe. Positivity rates have also increased significantly and are now hovering close to 20%. With Omicron turning dominant in most Western countries, Covid cases are accelerating and reaching all-time highs. The good news is that evidence of the variant causing a milder infection keeps getting stronger. Across US and Europe, hospitalizations and deaths are rising mildly and much less than cases. Severe cases are turning less frequent among the hospitalised too and concentrated among the non-vaccinated population. As a result, governments are turning to looser (and not stricter) restrictions in face of the new wave, for the first time since the pandemic started. In UK, quarantine and travel rules have been eased. In most Southern Europe isolation is now required for positive cases but not for close contacts. In US, restrictions are not being imposed despite a sharp rise in cases. Looser restrictions in the West will likely balance out the stricter Asian approach, somewhat offsetting the negative impact of omicron on 1Q22 growth and helping a small first step from pandemic to endemic.

Rates widening – Party’s over.
The first week of the year saw a marked widening in US rates, which triggered a sharp repricing in rates-sensitive asset classes which outperformed in the past two years. We find this week quite illustrative of the market dynamic that may be at play for the rest of the year. Following hawkish Fed minutes and discussions of potential quantitative tightening later in 2022, real rates widened almost 25bp in a week, approaching 1-year highs. As a result, EUR/USD approached 1.12, the Nasdaq index lost almost 5%, and EM and HY credit started widening. Issuance has also started picking up, despite a more challenging rates landscape. On the other side, value and cyclical stocks have held flat, and re-opening sectors are outperforming on omicron relief. We think this move has legs into the first quarter. Last year, rates widened mostly on higher inflation. In 2022 central banks will react to it, triggering a repricing in real rates, historically more dangerous for risk assets. Tech and consumer stocks closed the year at the highs, with valuations still 30% above historical average. Credit spreads are close to the 5y lows, and outflows in cash bonds did not materialize despite some weakness in 4Q. We thus see 2022 as an overall challenging year for risk assets, with weakness concentrated in areas which benefited the most from QE and low rates post Covid (DM government bonds, tech, EM and HY credit, gold, crypto). Value can be found in selected assets, mostly among commodity / inflation proxies and re-opening sectors, and in active management, given the value of hedging credit and rates risk will be as important as ever in 2022.

Kazakhstan – another open front for Russia?
In Kazakhstan, large street protests erupted as a result of recent sharp increases in the energy bill and the broader level of inflation. Protests have quickly turned into a large anti-government mob. The current government is still an expression of former President Nazarbayev, who ruled the country for twenty years, and under which elections have not been free and fair by international standards. Russia and regional players have contributed troops to help calming the mass protests, and the domestic situation may calm as a result. The Kazakhstan protests have added some nervousness on geopolitics in Eastern Europe, especially given the tensions in December. We see this as a separate issue, as it stems from a domestic problem, and it is largely independent on the Ukrainian situation. Still Kazakhstan has a strategic role for Russia given gas and oil reserves, so the commitment of Russia to protect the government will remain high, even if protests turn worse. Western countries are unlikely to react to the local situation for now, but prolonged protests may trigger some attention, as it happened for Belarus. So while unlikely to trigger immediate strong reaction, Kazakhstan may be the next open front for Russia over the next few months.