Viewpoint  |  December 12, 2023

Yield - A Gift That's Difficult to Ignore - 2024 Public Market Credit Outlook

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Executive Summary

1.We expect credit markets to offer generous total returns in 2024, amid positive carry and range bound credit spreads. 

2.The global economy is expected to slow in 2024 and remain below potential growth in most developed economies, and global inflation is decelerating. Although the final push to reduce inflation to 2% for developed economies will be difficult, a modest slow-down in the first half of the year should be enough for central banks to cut rates in the second half. 

3.Credit fundamentals are expected to deteriorate modestly, but the expected softness in credit metrics should not be meaningful enough to lead to significant spread widening. We expect default rates to continue to rise, but do not foresee any surprises given default candidates are well known and prices discounted accordingly.

4.Continued liability management exercises by corporates, whereby existing lenders agree to a maturity extension of existing instruments (or be exchanged into new longer-dated instruments) may help to keep default rates lower than many expect.

5.Technical factors have been positive this year, preventing spread widening despite rate rises and the slower economic backdrop outside the US. They may continue to be supportive in 2024. Net supply is expected to be either flat or moderately positive and, in all cases, well absorbed by renewed credit demand. Corporate balance sheets are relatively robust with cash levels large enough to remove the risk of oversupply in the near term. We are more concerned about the risk of a supply/demand imbalance in government bonds, as quantitative tightening programmes are likely to be maintained at their current pace or higher in 2024.

6.On the demand side, cash equivalent products or money market funds saw large inflows in 2023 in a risk-off move amid rising rates. With friendlier prospects for credit total return in 2024, we expect a reversal of flows from money markets into longer duration/higher yielding credit.

7.Credit spreads are likely to end 2023 at relatively tight levels, having resisted rising rates and high government bond market volatility. Renewed expectations of a rapid pivot in central bank policy rates extended this year’s spread tightening. Current valuations are close to their 10-year average¹, in the absence of a severe credit crisis or systemic sector risk, we see potential for further tightening in 2024, amid renewed inflows into fixed income and credit.

8.This view justifies, in our opinion, taking advantage of the higher carry opportunity in credit, including in high-yielding assets, although with a quality bias given the mediocre macro backdrop. Higher dispersion offers opportunities for active managers. We do not believe there are such things as sectors to avoid versus sectors to love, as we see idiosyncratic situations developing in many sectors, both positive and negative, generating alpha opportunities in 2024.

This material is not intended to be relied upon as a forecast, research, or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed by Muzinich & Co are as of December 2023 and may change without notice.