And at first glance it makes for comforting reading: “Spreads in Europe to remain tight,” says Lehman Brothers, while ABN Amro forecasts a benign outlook in 2006. How does this play out for fixed income, which has provided the bread and butter for many investment banks for the past five years, even though M&A and equities have returned to the fore in 2005? Setbacks such as General Motors or Delphi did not stop the majority of banks enjoying another stellar year. Almost all have reported record profits and fixed income/credit has been at the forefront of increased earnings. Sales and trading, origination, structuring and lending business have been highly profitable businesses in investment grade, high yield and emerging markets.
But storm clouds are brewing that could make the coming 12 months even more volatile for fixed income franchises than the previous year. Watching the auto sector is like watching a car crash in slow motion. You can see it coming, you think you know what is going to happen next, but it seems impossible to stop. The leveraged structured credit sector is the most obvious area where the stresses will manifest themselves.