We believe U.S. banks continue to offer bond investors attractive risk-adjusted returns given their healthy capitalization, strong liquidity/funding profiles, stable asset quality and regulatory oversight. Additionally, the sector should remain less susceptible versus other industrial sectors to negative credit event risk. Yet despite its strong credit fundamentals, the banking sector has underperformed so far this year, tightening -2bps versus -9bps for the Barclays Corporate Index. In our view, this underperformance is largely due to market technicals, namely heighted issuance, which we think should abate for the rest of the year.
In our previous blog post, “Do Banks Have a Liquidity Problem?”, we discussed why U.S. banks accessed the debt capital markets aggressively at the start of the COVID-19 pandemic. The reason was not an immediate liquidity need, but rather prudence on the part of bank management teams given the unprecedented market volatility. In 2020, the Big Six banks (BAC, C, GS, JPM, MS and WFC) issued $148 billion of senior unsecured debt, up 218% versus 2019. We initially estimated issuance to be down 10-15% in 2021 versus 2020 given last year’s heightened issuance and our expectations for debt maturities and balance sheet growth.
Year-to-date in 2021, however, the Big Six have issued over $120 billion in senior unsecured debt and we now expect total issuance to be up 8-12% versus last year. The issuance revision is for two reasons. First, several of the Big Six opted to expand their broker-dealer balance sheets due to the improved macroenvironment and investor demand. Second, they needed additional debt to meet certain regulatory requirements.
The Big Six have met over 75% of their issuance needs for 2021, leaving a digestible amount for the fixed income market for remainder of the year. Their 10-year bonds currently trade +25bps wide to 10-year A rated industrials, offering bond investors attractive spread pick-up. Over the coming months, we believe this differential should tighten closer to the +10bps differential the market witnessed at the start of the year as the banking industry remains well positioned to support the lending needs of its customers with healthy funding, improved credit quality, and robust capital levels.