Strong investor appetite supports credit

Hello. With this video, I want to give a quick update on the credit market. Just to recap what we have seen in Q1, it has been a very favourable credit environment created by dovish central banks, a resilient economy and moderating inflation. We have seen a strong demand for credit. To give you an example, there has been US$0.5 trillion of US investment grade issuance so far in 2024. That is out of the total projected investment grade issuance for the whole year of US$1.2 trillion. That is roughly 44% of issuance has come in the first quarter.¹

In terms of books for the investment grade, it has been well subscribed. It has had 3.8 times coverage versus an average of three and a half times in 2023.² There has been strong demand for US investment grade. We have also seen 22 consecutive weeks of US investment grade market fund inflows.³ Again, illustrating the strong demand for credit. What we are seeing is there are attractive yields despite tight spreads. What we have seen in Q1 is it has been an everything rally, so a real compression rally. To give you an example of that, 90% of high yield and IG (investment grade) bonds in Europe have all rallied in Q1.⁴

But still, there are attractive returns available. US investment grade yields at 5.5% and US high yield yields at 7.6% are still attractive to yield buyers.⁵ What will happen next I think is we have got a good and constructive outlook. And that is supported by both lower sovereign and credit bond volatility. They have both come down from their highs. And also, we will see a seasonal decline in supply through April. That is due to corporate blackouts, so they cannot issue ahead of earnings. And that, with the strong demand, should continue to support credit.

I think that what we are dealing with is solid credit fundamentals at the moment. What you have seen through this period is nominal sales and EBITDA (earnings before interest, tax, depreciation and amortisation) outpacing real debt burdens. However, I would stress that you should not be complacent within this market and there is a need for credit picking. What we have seen recently in March particularly is the lagged impact of rate hikes exposing pockets of vulnerability in the market. Rate cuts are not coming quick enough for some firms. But what we tend to do is we avoid entirely problem areas of the credit market, like the property sector, debt collectors. And we also avoid more vulnerable high yield issuers where they have got approaching debt maturities coming up.

So to conclude, overall, we have got a constructive credit outlook for quarter two. But the theme in quarter two will be avoiding complacency, moving up in quality and avoiding vulnerable issuers. Thanks for listening. And if you have any questions, please send them in.

ICE BofA US Corporate Index measures the performance of US dollar denominated investment grade corporate debt publicly issued in the US domestic market.
ICE BofA US High Yield Index tracks the performance of US dollar denominated below investment grade corporate debt publicly issued in the US domestic market.

Blackout period: A temporary period ahead of a company’s earnings announcement where certain actions by the company are constrained or denied. This is principally to avoid insider trading because managers/employees may have an information advantage over outside investors.
Compression rally: A rise in prices of corporate bonds due to credit spreads narrowing (declining) across bonds of all credit quality.
Corporate bond: A bond issued by a company. Bonds offer a return to investors in the form of periodic payments and the eventual return of the original money invested at issue on the maturity date.
Coverage/subscription: This refers to the process of investors committing to invest in (subscribe to) a bond issue. When a bond issue has coverage of two, it means there is twice as much demand for the bonds as there are bonds being issued.
Credit is typically defined as an agreement between a lender and a borrower. It is often used to describe corporate borrowings, which can take the form of corporate bonds, loans or other fixed income asset classes.
Credit fundamentals: The basic qualitative and quantitative information that reflects the company’s financial and economic position, for example, its earnings, ability to generate cash, management quality and levels of debt.
Credit spread is the difference in yield between securities with similar maturity but different credit quality. Widening spreads generally indicate deteriorating creditworthiness of corporate borrowers, and narrowing (tightening) indicate improving.
Cyclical: Companies or industries that are highly sensitive to changes in the economy, such that revenues generally are higher in periods of economic prosperity and expansion and are lower in periods of economic downturn and contraction.
Dovish:  An indication that policy makers are looking to tighten financial conditions, for example, by supporting higher interest rates to curb inflation. The opposite of dovish, which describes policymakers loosening policy, ie. leaning towards cutting interest rates to stimulate the economy.
High yield: A bond that has a lower credit rating than an investment grade bond. Sometimes known as a sub-investment grade bond. These bonds carry a higher risk of the issuer defaulting on their payments, so they are typically issued with a higher coupon to compensate for the additional risk.
Investment grade: A bond typically issued by governments or companies perceived to have a relatively low risk of defaulting on their payments. The higher quality of these bonds is reflected in their higher credit ratings.
Nominal sales: Another term for revenues (the money a company receives from sales). Nominal means they are not adjusted for inflation.
Volatility: The rate and extent at which the price of a portfolio, security or index, moves up and down. If the price swings up and down with large movements, it has high volatility. If the price moves more slowly and to a lesser extent, it has lower volatility. The higher the volatility the higher the risk of the investment.
Yield: The level of income on a security, typically expressed as a percentage rate. For a bond, at its most simple, this is calculated as the annual coupon payment divided by the current bond price.