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Seeking riches with the tide far out: 360°, Q1 2020

What is our current view of fixed-income markets? And where do we see the best relative value? In our latest edition of 360°, Andrew ‘Jacko’ Jackson, Head of Fixed Income, and his team of specialist investors considers the areas that have the potential to deliver superior risk-adjusted returns.

Rock pooling

Markets have reached all-time peaks and the cost of borrowing has plunged. While the level of corporate leverage is hard to ignore, it does seem – for the moment – that credit markets are functioning rationally. But in this environment, opportunities seem few and far between. As Jacko argues in his introduction to 360°, the tides are far out and fixed-income markets are fished almost to extinction. 

Yet, as always, there are gems that an active approach can help identify. By combining a top-down look at the entire fixed-income universe with high-conviction, bottom-up security selection, we can improve our chances of finding any pearl-bearing oysters that are hiding among the rocks and crevices.

With risks hard to identify but very obviously there, now is the time for active management that will find opportunities to secure superior, risk-adjusted returns in a market which seems to be stretching the bounds of credulity.

See below for a flavour of some of the areas where we see particular value at the moment, or read the full report for a more comprehensive picture.

The energy sector was out of favour last year, as a pick-up in defaults and heightened volatility caused investor sentiment to sour. But a bottom-up look at the sector showed us that there were opportunities to invest in names that had become dislocated from their fundamentals. This has paid off: a higher oil price helped the market turn and prompted a surge of issuance, and energy now accounts for almost half of developed-market high-yield supply.

 

In 2019, disliking the leveraged-loan market was consensus among most investors. And for good reason: the asset class suffered large outflows last year in response to tighter monetary policy. But the loans market benefited from the dovish turn of central banks in the middle of the year and has risen up our relative-value rankings. Leveraged loans now deliver similar levels of spread to high yield but with more security – and often better convexity.

We currently see value in parts of the mezzanine and junior structured-credit markets, with Euro collaterised-loan obligation (CLO) mezzanine tranches moving to the first place in our rankings. We think that CLO investors will be better rewarded for credit risk this year, while yields should improve given the zero-LIBOR floor – particularly when compared to corporate bonds with the same rating.

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