Snapshot  |  May 11, 2023

Corporate Credit Snapshot

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• Global credit delivered mostly positive returns
• First quarter corporate earnings season started, with most reported earnings beating estimates as of month-end
• In the US, while the month’s economic numbers painted a mixed picture for policy makers ahead of the Federal Reserve’s (Fed’s) rate decision in early May, the market’s expectations that the Fed would increase by 25 basis points (bps) remained unchanged (and accurate) 
• In Europe, market volatility—driven by interest rates—continued to be elevated this month.  The market felt more confident through the first half of the month, turning more cautious later, as fears around the US regional banks returned.  At the end of the month, the market anticipated (correctly) just 25 basis points (bps) of immediate hiking from the ECB, however with expectations that rates may further increase, reaching a peak of 3.75% in the second half of the year (Source: Financial Times, 4th May 2023)

US

US markets delivered positive returns in April.  While the month’s economic numbers painted a mixed picture for policy makers ahead of the Federal Reserve’s (Fed’s) rate decision in early May, the market’s expectations that the Fed would increase by 25 basis points (bps) remained unchanged (and accurate).  First quarter corporate earnings season started, with most reported earnings beating estimates as of month-end.  It should be noted that many of the reporting S&P 500 companies are larger than many lower-rated (single-B and lower) high yield and leveraged loan issuers that have yet to report.  In general, companies have been able to exhibit pricing power to maintain margins and cash flow while at the same time seeing certain 2022 issues (i.e., high labor costs) revert to more normalized levels.  The general view is that this earnings season is moving forward at a better-than-expected pace, and if this holds, high yield credit metrics (e.g., leverage, interest coverage, etc.) will stay near historic best levels.

EUROPE

European credit markets delivered mostly positive returns in April. Market volatility—driven by interest rates—continued to be elevated this month as the market tried to price the policy rate trajectory (in both the US and Europe) for the rest of the year. In the absence of both Federal Open Market Committee and European Central Bank (ECB) meetings in April, plus a data-dependent approach confirmed by both Jerome Powell and Christine Lagarde in March, interest rates were volatile around data releases and headlines. The market felt more confident through the first half of the month and ECB speakers struck a more hawkish tone. Economic data was resilient, and the Credit Suisse crisis appeared to be contained. This mood turned more cautious later in the month as fears around the US regional banks returned.  Investment grade credit spreads were supported by a flight to quality, a degree of normalization after March’s risk-off move, and relatively quiet primary issuance over the month. Despite concerns related to a deteriorating outlook, we are not yet seeing significant pressure on corporate earnings and profitability; rating shifts continue to be relatively balanced outside of the more stressed parts of the market, such as real estate. At the end of the month, the market anticipated (correctly) just 25 basis points (bps) of immediate hiking from the ECB, however with expectations that rates may further increase, reaching a peak of 3.75% in the second half of the year (Source: Financial Times, 4th May 2023).

EM

Emerging Markets (EM) delivered mixed returns in April.  China’s reopening momentum continued as a reimposition of lockdowns seems unlikely (despite a modest COVID uptick) and mobility continues to recover. Meanwhile, other tracking data has been volatile but broadly strengthening.   Against this backdrop, China’s Politburo (the top decision-making body that focuses on the economy and sets the tone for policy in the coming months) presented a pro-growth stance this month, saying the country’s economic recovery requires continued forceful fiscal and monetary support, and reiterating support both for the private sector and for a high-level “opening up” to further attract foreign investment.  In Japan, the BOJ (Bank of Japan) decided to leave their main policy settings unchanged but removed forward guidance for rates.  They also announced a review of monetary policy that would take up to 1.5 years and revised inflation projections upwards. The combination of changes to forward guidance, monetary review, and upward revisions to inflation, suggests that the BOJ is readying itself for a policy adjustment in the coming months. In LatAm, a hawkish mood was maintained with Colombia’s central bank hiking rates as political developments widened risk premia.  Expectations are for Brazil’ s central bank to keep rates unchanged in May.

OUTLOOK

While we believe the recent banking headlines are largely related to issues facing the specific banks involved, global market concerns remain regarding potential systemic risks stemming from aggressive central bank tightening over the last year.  More restrictive policies and higher interest rates have dampened the outlook for economic growth with debate still centered on the likelihood of near-term recessions in the US and Europe.  While we do see signs of resiliency in the underlying economies and corporate balance sheets are generally on solid footing entering any potential downturn, we are working broadly to position portfolios for a slowdown.  Markets will begin the month of May receiving a slew of economic releases starting with manufacturing, services, and jobs data. The market is anticipating that the Fed’s May 3rd rate hike was likely the last increase, and any future indication that additional hikes are being considered could cause an increase in volatility.  We believe diligence and discipline is warranted as we navigate this challenging period of quantitative tightening, higher rates, credit tightening, and competition for capital.