Analysis | April 28, 2021
Key Themes for US High Yield - Q2 2021
Corporate Fundamentals Appear Solid
Given what we have seen in the US with the rebounding economy and a strong first-quarter earnings season, we believe corporate fundamentals look positive. In our view there is pent-up demand for products, and we are seeing this translate into shortages in areas such as building materials and autos.
We expect high yield corporates to see revenue growth or recovery, depending on how they were initially hit by the pandemic. We also expect leverage ratios to improve and interest coverage ratios to stay high. Corporates do not appear to be taking on much more debt. Therefore, overall we believe high yield companies appear in good shape.
Opportunities in Reopening Sectors
We believe the strong growth in the US economy and vaccination news has increased investment opportunities in sectors such as energy and leisure. Leisure is multiple sectors including airlines, gaming, hotels and entertainment and as a group comprises a significant portion of the US high yield market. We are seeing a number of opportunities in these areas as the US economy reopens.
B Rated Bonds Are in the Sweet Spot
In the three components of high yield (BB, B and CCC rated bonds), we are seeing an improvement in defaults and investments in all areas. However, in the CCC ratings segment, following a period of strong performance, spreads are now tight compared to historic levels. Meanwhile, with the likelihood of an increase in rates, we believe BB rated bonds could be susceptible to duration risk. Therefore, bonds in the B ratings category are the current sweet spot in our opinion; default risk is low, and the upgrade/downgrade ratio is positive. The spread component will also help absorb any rate increase.
Rates (or Volatility) Could Move Higher
In our view, rates, which have already moved a long way, are likely to increase over this year, although in a more manageable way than the aggressive moves seen from mid-January to mid-March. We do not see duration for the time being as a major concern. However, if the US economy continues to run hot, the Federal Reserve (Fed) could change its forward guidance and start to taper their quantitative easing programme. It will be important to see how the Fed communicates this to avoid a repeat of the 2018 taper tantrum which led to a spike in volatility and spread widening.
Muzinich & Co. referenced herein is defined as Muzinich & Co., Inc. and its affiliates. This document has been produced for information purposes only and as such the views contained herein are not to be taken as investment advice. Opinions are as of date of publication and are subject to change without reference or notification to you. Past results do not guarantee future performance. The value of investments and the income from them may fall as well as rise and is not guaranteed and investors may not get back the full amount invested. Rates of exchange may cause the value of investments to rise or fall. This document and the views and opinions expressed should not be construed as an offer to buy or sell or invitation to engage in any investment activity; they are for information purposes only. Opinions and statements of financial market trends that are based on market conditions constitute our judgement as at the date of this document. They are considered to be accurate at the time of writing, but no warranty of accuracy is given and no liability in respect of any error or omission is accepted. Certain information contained in this document constitutes forward-looking statements; due to various risks and uncertainties, actual events may differ materially from those reflected or contemplated in such forward-looking statements. Nothing contained in this document may be relied upon as a guarantee, promise, assurance or a representation as to the future. All information contained herein is believed to be accurate as of the date(s) indicated, is not complete, and is subject to change at any time. Certain information contained herein is based on data obtained from third parties and, although believed to be reliable, has not been independently verified by anyone at or affiliated with Muzinich and Co., its accuracy or completeness cannot be guaranteed. Risk management includes an effort to monitor and manage risk but does not imply low or no risk. Emerging Markets may be more risky than more developed markets for a variety of reasons, including but not limited to, increased political, social and economic instability; heightened pricing volatility and reduced market liquidity. In Europe, this material is issued by Muzinich & Co. Limited., which is authorised and regulated by the Financial Conduct Authority. Registered in England and Wales No. 3852444. Registered address: 8 Hanover Street, London W1S 1YQ. Muzinich & Co. Limited. is a subsidiary of Muzinich & Co., Inc. Muzinich & Co., Inc. is a registered investment adviser with the Securities and Exchange Commission. Muzinich & Co., Inc.’s being a registered investment adviser with the Securities Exchange Commission (SEC) in no way shall imply a certain level of skill or training or any authorization or approval by the SEC.