Opportunities in fixed income and credit as recessionary risk increases

  • Credit spreads blew out in 1H 2022 (US HY OAS widened from 3.05% in January to 5.87% in June); the recent tightening in OAS (4.37% in August) was due to lower-than-expected recession fears
  • Following one of the worst first halves for the fixed income markets in near 40 years, the outlook for fixed income and credit remains good, given the flight to safety
  1. Floating-rate securities such as leveraged loans and floating-rate notes can act as natural hedges to rising rates. Not surprisingly, leveraged loans have outperformed other asset class year to date in August 2022, with total returns of negative 0.94%, compared to negative5% each for high-yield bonds and Treasuries. However US high-yield bond funds received inflow of USD4.8bn in July, the first monthly inflow in 2022, with fund managers also increasing their investments in junk bonds to take advantage of widening yield spreads.
  2. Distressed credits grew 67.0% y/y in the week ended 19 July 2022, with 8bn worth of USD corporate bonds and loans in the Americas trading at distressed levels, the most since January 2021. Investors could look for these distressed credits, in line with their sector preferences and risk appetite, but they need to carefully evaluate a company’s valuation and recoveries.
  3. Municipals bonds rebounded in July and the S&P Municipal Bond Index returned 2.59%, bringing the year-to-date total return to negative 6.02%. With most US states well positioned due to record fiscal-year 2022 revenue, accumulated reserves and federal aid, investors could evaluate municipal bonds amid higher yields and strong credit.
  4. Investment-grade (IG) securities. IG bond prices fell to their lowest since 2008 and the US IG bond index price was at USD93.5 in May 2022, against a fair value to USD100.0, due to rising rates and market volatility. Investors could consider IG credits trading at significant discounts to par with strong fundamentals.

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Acuity Knowledge Partners

Acuity Knowledge Partners

We write about financial industry trends, the impact of regulatory changes and opinions on industry inflection points. https://www.acuitykp.com/