What do metrics indicate about the outlook for riskier segments of the bond market? Amid interest rate volatility, how can asset owners best manage their risk? And how does a veteran-owned investment bank see the geopolitical risks impacting financial markets? Access these insights and more, in this month’s Fixed Income monthly.
During a year when markets were stalked by uncertainty, it’s been interesting to see some riskier bonds outperform their investment grade counterparts. While many point to reasons for caution, a closer examination of the high yield bond segment may instead provide broader cause for optimism.
First, a few relevant stats. High yield corporate bonds have returned 4.68% for the year through to October, according to the ICE BofA US High Yield Index, versus a 1.38% loss for investment grade bonds as represented by the ICE BofA US Corporate Index over the same period.
Key metrics within the high yield space are heartening. Twelve-month trailing high yield defaults stand at 3.1%, a contrast to nearly 8% in 2021, after peaking at 9% in August 2020. The recent upgrade of Ford Motors from high yield to investment grade, for the first time since March 2020, is also somewhat of a bellwether: rising stars (companies obtaining credit upgrades) have outpaced fallen angels (companies receiving credit downgrades) this year by more than 6-to-1 in the U.S. market at $140.9 billion versus just $21.9 billion, respectively.
A high-rate backdrop has piqued some concern about refinancing needs. Yet 0-18 month near-term financing for the U.S. high yield segment sits at ~5%, in-line with average figures over the last 12 years. In other words, companies knew the era of low rates would end, and there is no looming maturity wall with higher borrowing costs on the foreseeable horizon.
Basic supply-demand dynamics are also favorable. Back in 2021, high yield bond issuance stood at over $400 billion as companies rushed to refinance amid a low-rate backdrop. Now, with rates at their highest level in decades, high yield issuance sits at just ~$150 billion for 2023 and is expected to reach ~$170 billion by year end. A dynamic of low supply and steady demand is supported by investment mandates from vehicles like pension funds, insurers, and trading in the secondary market.
Of course, all performance is relative. For the investment grade segment, losses for the year through to October were due in large part to banks, which suffered amid fallout from the regional banking crisis and subsequent credit downgrades. Alongside this, the continuation of an aggressive rate hike cycle saw a dichotomy where investors either flocked to the (perceived) safety of Treasuries with decent yield – or sought far richer returns in high yield bonds.
All in, while it would be naïve to dismiss lingering risks to growth, the recent uptick in market sentiment is well-supported by indicators in the high yield debt market. And as the holiday season kicks off, it’s a reprieve for which market participants can be grateful.
Asset owners such as insurers and pension plans, have traditionally held a sizeable portion of their portfolios in fixed income securities. They employ duration-matching to align cash flows of these securities with the projected future obligations to policyholders and pension beneficiaries. This means the rapid rise in yields and uptick in rate volatility has presented valuation and asset-liability matching challenges.
For municipal bond markets, quality data can create a clear distinction around issuance costs, reliable evaluations, and fair pricing. ICE’s Senior Director and Head of Municipal Bond Evaluations Patrick Smith and Senior Director of Fixed Income Product Sowjana Sivaloganathan explore the evolution of the muni market in this article with Bond Buyer.
Fixed Income in Focus
In our latest episodes, Academy Asset Management’s Chance Mins and Seth Rosenthal give a perspective from a veteran-owned and operated investment bank on how they see geopolitical risks playing out in financial markets.
Separately, FlexTrade CEO Vijay Kedia discusses how execution management systems can help meet the rapidly evolving needs of fixed income markets.
This October, ICE closed out the final open interest in credit default swaps at ICE Clear Europe and re-established positions in the US at ICE Clear Credit. The process involved developing a new matching algorithm at ICE Link, a post-trade affirmation platform for buy-side and sell-side CDS market participants, in just three months.
The ICE Fixed Income Forum gathered financial experts and thought leaders to address industry challenges and opportunities, and sought to uncover solutions to help advance financial markets.
Led by a keynote discussion with BlackRock's Co-Head of Global Trading Dan Veiner, this event featured panel discussions that explored a range of topics, from electronification of trading workflows and advancements in AI/cloud technology to indexing & ETF strategies and valuation best practices.
The event also featured a fire-side chat with McLaren Racing CEO Zak Brown about the importance of data in racing.
Manage risk, uncover opportunities, and make informed decisions in real-time with ICE’s end-to-end fixed income solutions. Reimagine your fixed income workflow from price transparency & discovery and efficient execution through to performance analysis.
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