The slump marks the biggest total return loss since Lehman Brothers’ collapse for high-grade bonds
Author of the article:
Bloomberg News
Tasos Vossos and Hannah Benjamin
The worldwide pool of the safest corporate debt has already shrunk by US$805 billion so far this year. Photo by ANGELA WEISS/AFP via Getty Images Investors in company debt are bracing themselves for more trouble ahead after a turbulent quarter as economic fears remain in place while the end of the war in Ukraine could prove elusive.
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The worldwide pool of the safest corporate debt has already shrunk by US$805 billion so far this year, while the global junk market lost US$236 billion, according to data compiled by Bloomberg. That’s the biggest dollar decline since records began more than 20 years ago, following a borrowing binge propelled by record-low funding costs.
The slump marked the biggest total return loss since Lehman Brothers Holdings Inc.’s collapse for high-grade bonds, and the worst performance since the start of the pandemic for junk.
The global credit market remains under pressure from rampant inflation, which will push central banks to boost rates, in turn risking an economic slowdown. Meanwhile, Russia’s invasion of Ukraine increases concerns about Europe’s ability to fulfil its energy needs and further disrupts already struggling supply chains.
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“We’ve really got a lot of things we have to contend with,” said April Larusse, head of investment specialists at Insight Investment, which oversees 867 billion pounds (US$1.14 trillion). And given that “there can be endless talk and quite little progress” between Russian and Ukrainian negotiators, “it’s probably unwise to put a large directional bet.”
Ukraine outlook
Skeptical North Atlantic Treaty Organization (NATO) allies are evaluating whether Russia’s promise to scale back military operations in Ukraine marks a turning point in the conflict or simply a tactical shift. Hopes for progress in negotiations helped bring spreads in global high-grade debt below levels last seen before Russia’s invasion of Ukraine on Feb. 24. Morgan Stanley’s United States and European credit strategy head warned this could prove a blip as focus shifts to central bank hawkishness.
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Losses have been coming from all sides, especially in the high-grade market, which is more exposed to the global rise in government bond yields as central banks tighten policy. This is due to their higher duration, bond parlance for price sensitivity to changes in interest rates.
Yields on 10-year U.S. Treasury and German government bonds have surged to their highest levels since 2019 and 2018, respectively. U.S. two-year yields briefly exceeded the 10-year level on Tuesday for the first time since 2019, signalling that rate increases by the U.S. Federal Reserve could trigger a recession.
Meanwhile, corporate bonds’ risk premium above supposedly safe debt has also jumped year to date. While spreads reversed some of their widening in recent weeks, analysts expect pressure to resume.
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In Europe, bonds indicated at a discount to face value now account for two-thirds of the euro high-grade market from about a quarter at the end of 2021, based on data compiled by Bloomberg.
Persisting risks
Still, what looks cheap now can get even cheaper later, especially as the risks that have driven first-quarter losses look set to persist.
“Twelve-month forward excess return expectations from current levels are historically good,” said Greg Venizelos, a credit strategist at Axa Investment Managers, which oversees 887 billion euros. “This doesn’t mean there is no further downside. It’s a good entry point, but could get even better in the weeks ahead. It’s prudent to stay a bit cautious.”
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Article content To be sure, sharp price drops have allowed some investors to scoop up what they regard as bargains at spread levels not seen since the start of the coronavirus pandemic.
“We view investment-grade in dollars as a strong buying opportunity, probably the best opportunity in the current environment if we think in terms of risk-adjusted expected returns,” said Eric Vanraes, a portfolio manager at Eric Sturdza Investments, which oversees US$1.7 billion.
“The widening of spreads has been amplified by poor liquidity,” he said. “It will improve when people like us seize the opportunity and become buyers of the asset class.”
Bloomberg.com
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