Our analysis suggests that, while challenging, the backdrop for credit is not unremittingly bleak. As ever, the picture is nuanced, with the pain not being felt equally across all sectors and sub asset classes.
In corporate credit, for example, there may be concerns in specific sectors (homebuilding, retail and technology being the stand-outs) but, more broadly, companies are arriving with strong credit metrics and balance sheet health supported by low leverage, high interest coverage, and a term structure of liabilities back ended after proactive refinancing activity last year. This backdrop generally leads us to see a lower default rate through the cycle than historically witnessed.
The constructive argument can also be bolstered by the value side – hiking cycles are well priced in developed markets for the rest of this year and central banks appear joined up in their desire to tackle inflation for now. We have likely seen the peak in US inflation already, with Europe and the UK peaking in Q1 2023, in that order. Credit spreads now price a moderate recession, while yields in many parts of the market are at multi-year highs, including some areas that we particularly like right now: subordinated financials, corporate hybrids, and certain parts of structured credit.
- Economic outlook: Hope for the best; be prepared for the worst.
- A view on sentiment: Fear trumps confidence as pessimism takes hold.
- Stressed, distressed and special situations: CCCs remain within one standard deviation of the US HY index so are still not looking cheap.
- Emerging markets: Corporates and sovereigns have experienced a tumultuous 2022 – far underperforming their respective developed market counterparts.
- Structured credit: Despite weathering the worst of the macro headwinds, spreads have widened over recent months in sympathy with wider market sell–