Fixed Income Credit - year to date and outlookPublished on 09 Aug 2019
Fixed income markets - credit and rates - have performed well to the mid-point of the year. The first half of the year saw the high yield bond market enjoying its best performance for over two decades. Investment grade bonds also performed strongly, benefitting from the rally in government bonds. Both have seen returns between 7% - 9% across the board. Emerging market hard currency bonds have returned 8%, while emerging market local currency bonds also performed strongly - up around 6% to the end of June.
If we roll the clocks back to Q4 2018, credit markets seemed to be falling apart. The high yield and leveraged loan markets both saw significant falls and even, the investment grade market experienced some weakness. Credit spreads widened, as investors grew increasingly concerned about the state of the global economy, the impact of trade wars and monetary policy tightening.
During the first months of 2019, everything changed. Developed market central bank rhetoric turned increasingly dovish, allowing risk assets to rally and government bond yields to drop. In the US, Federal Reserve Chairman Jerome Powell, openly discussed the potential for rate cuts with the market fully pricing in the first cut for the end of July. Meanwhile the European Central Bank too appears to be manoeuvring towards lower rates and, as a result, yields across core Europe have once again gone deeply negative.
We are now in an environment where there are circa $12tn of assets – around a quarter of the Bloomberg Barclays Global Aggregate benchmark – trading with negative yields. This has the effect of pushing investors out of their natural habitats but also lending support to credit markets as investors seek out positive yields.
Credit metrics give a good indication of the health of the corporate bond market. Metrics such as earnings over debt and interest coverage for companies across the US and Europe are holding up well, and companies overall appear to be reasonably healthy. We also observe that the ‘maturity wall’- an indication of the amount of debt maturing in a given year - is well spaced out, with a limited amount of corporate debt coming due in the short term. It is positive for corporate debt that we are again in an environment where interest rates are moving lower. Companies will be able to refinance their debt at cheap levels and maintain interest coverage; we do not expect to see a significant increase in the default rate.
Although the rest of 2019 is unlikely to see the sort of returns, we have seen so far, we believe fixed income markets will remain supported for some time to come.
Disclaimer: Past performance is not a guide to future performance. All investments risk the loss of capital.
When investing in gilts or bonds you should consider, among other things, the issuer’s credit rating and ability to repay their debt. This will have a direct bearing on the value of the investment. Should the issuer default they may not make interest payments or be able to repay some or all of the capital. Other risks to consider in relation to gilts or bonds are inflation and unexpected increases in interest rates.
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