Corporate Credit Snapshot – 31 October, 2018

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  • Global markets experienced significant volatility, led by the US
  • October’s sell-off (both equities and high yield) began with concerns regarding rates. As the month progressed and corporate earnings came into focus, the sell-off became more risk-off than rates related as investors worried about future growth prospects and cash flows
  • The economic situation in Italy continued to dominate European news flow for much of the month as the coalition government’s budgetary proposals remained under the spotlight after being rejected by the European Commission
  • China was one of the weaker performers as a slowdown in economic activity and trade wars weakened sentiment

US
US markets experienced significant volatility with all of US credit, with the exception of loans, declining for the month. October’s sell-off (both equities and high yield) began with concerns regarding rates. The US 10-year yield rose almost 20 bps to start the month, worrying investors and causing higher quality, longer bonds to lag. Higher rates mean higher borrowing costs, a potential economic headwind and historically a cause of concern for investors. As the month progressed and corporate earnings (Caterpillar, 3M) came into focus, the sell-off became more risk-off than rates related as investors worried about future growth prospects and cash flows. As a result, riskier CCCs, which had been the outperformer for the year, experienced the sharpest declines towards month-end. US industrial corporate reports of rising prices and costs led to renewed concerns about tariffs and inflationary pressures. Uncertainty surrounding the outcome of the elections and potential escalation of the China trade war has made many investors question future growth prospects.

Europe
In what was a difficult month for capital markets, credit proved much more resilient than equities. European corporates outperformed their US counterparts during October, with investment grade outperforming high yield. The economic situation in Italy continued to dominate European news flow for much of the month as the coalition government’s budgetary proposals remained under the spotlight after being rejected by the European Commission. Rating agency Moody’s downgraded the country’s credit rating while S&P changed their outlook to negative following a similar decision by Fitch in September. The political situation in Germany also moved to the fore in October as regional elections resulted in a significant loss by the Christian Democratic Union party (“CDU”). As a result, following 13 years as Chancellor, Angela Merkel announced she would step down at the next election and, as early as December, resign from her post as head of the CDU. Against a backdrop of slowing growth across most of Europe, the European Central Bank left rates on hold, but reaffirmed that quantitative easing would come to an end in December. However, trade wars appeared to have an effect on the region’s exports, with the PMI reading for September falling to its lowest level in 2 years.

EM
Emerging market (EM) corporate bonds held up relatively well in a month dominated by risk-off sentiment due to fears of trade wars, US Federal Reserve trade policy, and concerns that earnings and global growth had peaked during the second quarter of the year. By rating, high yield bonds outperformed investment grade. In terms of sector, there was broad dispersion between the best and worst performers with financials and transport making gains while real estate and infrastructure were weak. The price of oil declined notably over the month amid fears a potential global economic slowdown could hurt demand just as supply increases. At the country level, Brazilian corporates put in a positive performance during a month dominated by presidential elections. Right-wing candidate, Jair Bolsonaro, was elected president, winning the second round by a large margin, while the incumbent PT party lost significant influence in the government. Bolsonaro is expected to form a business-friendly government that will initiate reform in public security, utilities and fiscal management. Conversely, China was one of the poorer performers as a slowdown in economic activity and trade wars weakened sentiment.