Public Fixed Income

Investment Grade Credit: Whatever It Takes

July 2020 – 2 min read
After the historic rollercoaster ride IG credit took in the first quarter, U.S. policymakers seem to have won the day, at least for now—with their own version of the phrase made famous by former ECB President Mario Draghi: Whatever it takes.

It’s clear that the U.S. Federal Reserve (Fed) means business, having implemented a number of programs—from purchasing fallen angels and shares in high yield ETFs to buying individual corporate bonds—to counter the sharp and sweeping effects of COVID-19 on markets. The downstream effects of these programs have been impressive. Investment grade (IG) corporate performance, for one, was up 8.98% for the quarter, and spreads have tightened significantly since March. New issuance has also surged, in some cases to record levels, as companies have capitalized on the window of opportunity to bolster their balance sheets. But building up war chests is not without risk, in this case from adding more debt at a time when much uncertainty remains around the economy and corporate earnings.
 

IG SPREADS EXPERIENCE A STRONG RECOVERY

Source: Barings. As of June 30, 2020.
 

Concerns that weighed on investors’ minds in the first quarter—like the potential for a mass wave of fallen angels and the high yield market’s ability to absorb the extra supply in an orderly fashion—have also largely subsided given the Fed’s wiliness to take action. In fact, the central bank even backdated its program to buy fallen angels to include large issuers, such as Ford, that at the time of the announcement had already been downgraded to high yield.    

Away from traditional corporate issuers, the moves across the investment grade landscape were more varied. Collateralized loan obligations (CLOs), for instance, were somewhat slower to recover as they were not directly impacted by the Fed’s programs and also continued to face challenges of their own. The asset class has regained ground more recently, however, from broad-based buying and improving forecasts around defaults and downgrades, as well as potential cash flow diversions.

Across the securitized space, asset backed security (ABS) markets have come back the most. The outlook for ABS is more idiosyncratic, however, given the very large scope of the space. On the one hand, COVID-exposed industries like aviation and auto, particularly rental cars, are still looking very uncertain—Hertz’s recent bankruptcy filing underscores this. On the bright side, other segments of the market, such as high-rated FFELP student loans, should be less impacted going forward and appear to offer attractive relative value.

Commercial mortgage-based securities (CMBS) were slower to recover initially, although certain higher-rated parts of the market have begun to outperform more recently. While deals backed by COVID-impacted sectors—such as retail and travel & leisure—will likely face difficulties, other sectors like warehouses and data centers look better positioned to offer attractive value going forward. 

The Fed’s stated goal is to enhance liquidity and ensure that crucial markets are operating efficiently. So far, its programs appear to be working, having opened up new issue markets and bolstered asset prices. Investors have seemingly been right—at least until now—not to “fight the Fed,” and there are no immediate signs that this mentality should change anytime soon. That said, it’s possible that markets have gotten ahead of themselves, although this is largely dependent on the extent of further COVID-19 outbreaks and the resulting economic impact. Not to mention, of course, that the liquidity being injected into the market is not free—in fact, what was once considered unconventional, or to some unthinkable (e.g. the Fed buying shares in high yield ETFs), is now business as usual—and at some point, the costs will need to be addressed. The full ramifications of this for capital markets are not yet clear, and may not begin to crystallize for years to come. For now, the music continues to play—although investors will need to be mindful of where they’re standing when it stops.

Any forecasts in this material are based upon Barings opinion of the market at the date of preparation and are subject to change without notice, dependent upon many factors. Any prediction, projection or forecast is not necessarily indicative of the future or likely performance. Investment involves risk. The value of any investments and any income generated may go down as well as up and is not guaranteed by Barings or any other person. PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.

Any investment results, portfolio compositions and or examples set forth in this material are provided for illustrative purposes only and are not indicative of any future investment results, future portfolio composition or investments. The composition, size of, and risks associated with an investment may differ substantially from any examples set forth in this material No representation is made that an investment will be profitable or will not incur losses. Where appropriate, changes in the currency exchange rates may affect the value of investments. Prospective investors should read the offering documents, if applicable, for the details and specific risk factors of any Fund/Strategy discussed in this material.

Barings is the brand name for the worldwide asset management and associated businesses of Barings LLC and its global affiliates. Barings Securities LLC, Barings (U.K.) Limited, Barings Global Advisers Limited, Barings Australia Pty Ltd, Barings Japan Limited, Baring Asset Management Limited, Baring International Investment Limited, Baring Fund Managers Limited, Baring International Fund Managers (Ireland) Limited, Baring Asset Management (Asia) Limited, Baring SICE (Taiwan) Limited, Baring Asset Management Switzerland Sarl, and Baring Asset Management Korea Limited each are affiliated financial service companies owned by Barings LLC (each, individually, an “Affiliate”).

NO OFFER: The material is for informational purposes only and is not an offer or solicitation for the purchase or sale of any financial instrument or service in any jurisdiction. The material herein was prepared without any consideration of the investment objectives, financial situation or particular needs of anyone who may receive it. This material is not, and must not be treated as, investment advice, an investment recommendation, investment research, or a recommendation about the suitability or appropriateness of any security, commodity, investment, or particular investment strategy, and must not be construed as a projection or prediction.

Unless otherwise mentioned, the views contained in this material are those of Barings. These views are made in good faith in relation to the facts known at the time of preparation and are subject to change without notice. Individual portfolio management teams may hold different views than the views expressed herein and may make different investment decisions for different clients. Parts of this material may be based on information received from sources we believe to be reliable. Although every effort is taken to ensure that the information contained in this material is accurate, Barings makes no representation or warranty, express or implied, regarding the accuracy, completeness or adequacy of the information.

Any service, security, investment or product outlined in this material may not be suitable for a prospective investor or available in their jurisdiction. Copyright in this material is owned by Barings. Information in this material may be used for your own personal use, but may not be altered, reproduced or distributed without Barings’ consent.

Related Viewpoints