Spreads grind tighter ahead of Fed

Credit spreads continued to grind tighter on Tuesday as the favourable monetary policy outlook in the developed world sets the scene for a solid end to the year.

The US Federal Reserve makes its monthly policy decision tomorrow, but the central bank is expected to maintain its current rate of asset purchases. Indeed, the status quo may well stay in place until the first-quarter of next year - March 2014 now appears to be the consensus.

This is positive for risk assets, which tend to benefit from extraordinary liquidity measures. It will take a torrent of strong economic data for the markets to bring forward their expectations of QE tapering, and there was one release today that fitted the description.

US house prices, as measured by the S&P/Case-Shiller index, rose by 12.8% in August;, the fastest annual rate for more than seven years. But other housing data haves pointed towards the rate of growth slowing in recent months, no doubt as a result of higher mortgage rates. The Fed - and the markets - will need more convincing that the economy is strong enough to taper QE this year.

The positive climate in credit led to spreads tightening in Europe, with the Markit iTraxx Europe index rallying by 1bp to 86bps. Banks were among the strongest performers, despite mixed earnings from several large institutions. Deutsche Bank's (96bps, -2) results disappointed and UBS (80bps, -1) surprised the markets when it announced that the Swiss regulator had ordered it to hold more capital.

Aside from financials, Nokia stood out after it posted third-quarter results. The Finnish company's spreads tightened dramatically in September, when it announced the sale of its phone division to Microsoft, and the deal is still the fundamental driver of Nokia's credit profile.

Post-transaction, the company will be focused on telecoms network equipment, and this division's profit margins are expected to rise in the fourth-quarter. Nokia's spreads rallied by 19bps to 212bps, and is now one of the tightest names in the Markit iTraxx Crossover index.

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