Key Takeaways
Global credit generated negative returns as rates moved higher in April driven by sticky inflation prints.
We expect further divergence between the Fed and European Central Bank (ECB); at the end of the month, the market was expecting three cuts from the ECB before year-end starting in June, and just one from the Fed in December. This compares to the start of the month when both central banks were expected to cut roughly three times this year, starting in June.
Primary market activity for both high yield and investment grade continued apace, and coupon/carry remains a meaningful driver of total returns.
In Emerging Markets (EM) one of April’s key drivers came from sovereign ratings action with multiple downgrades and some affirmations. The growth picture in Asia surprised on the upside with both China and Korea’s first-quarter GDP coming in higher than expected.
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US
In the US, credit markets generated negative returns as rates moved higher in April driven by sticky inflation prints. Spreads were largely unchanged despite significant intra-month volatility on the back of headlines from the Middle East and the expectation that Fed rate cuts will continue to be pushed back. For reference, at the end of April, the market was expecting just one Fed rate cut this year in December, compared to almost three cuts expected at the beginning of the month. We believe that there could be continued rate volatility through the year due to conflicting economic data releases. The US elections in November could also introduce rate volatility stemming from differing economic messages and policies. Primary market activity for both high yield and investment grade continued apace, and coupon/carry remains a meaningful driver of total returns.
EUROPE
In Europe, credit markets generated negative returns as rates moved higher in April driven by sticky inflation prints. Spreads were largely unchanged despite significant intra-month volatility on the back of headlines from the Middle East and the expectation that Federal Reserve (Fed) rate cuts will continue to be pushed back. We expect further divergence between the Fed and European Central Bank (ECB); at the end of the month, the market was expecting three cuts from the ECB before year-end starting in June, and just one from the Fed in December. This compares to the start of the month when both central banks were expected to cut roughly three times this year, starting in June. The US elections in November could also introduce rate volatility stemming from differing economic messages and policies. This month Europe outperformed the US, and high yield outperformed investment grade.
EM
Emerging Market (EM) debt generated negative returns as rates moved higher due to sticky inflation prints and a pickup in the global manufacturing cycle. One of April’s key drivers came from sovereign ratings action. Fitch downgraded Panama to high yield (HY), highlighting the sovereign’s fiscal and governance challenges, exaggerated by the recent mine closure and reliance on external financing. In China, Fitch revised its sovereign outlook to negative, citing concerns around public financing and the property sector. Meanwhile, Peru was downgraded by S&P to a BBB- rating, noting political uncertainty and its negative effect on growth. Israel also received the same treatment on the back of the escalation in geopolitical tensions. On a more positive note, the ratings agency re-affirmed Hungary and Romania’s current BBB- ratings. The growth picture in Asia surprised on the upside with both China and Korea’s first-quarter GDP coming in higher than expected due to industrial production, strong exports, and manufacturing investment. EM central banks largely continued their rate cutting trajectory, with cuts from Peru, Argentina, and Hungary (which slowed its pace of easing in line with expectations). The exception came from Indonesia, which surprised the market with a hike to anchor interest rate stability and combat rising commodity prices.
OUTLOOK
Year to date, spreads and coupons continue to effectively buffer the negative total return impact of rising government yields, contributing to positive excess returns across global credit. In our view, prices generally remain discounted, providing cushion for potential additional interest rate volatility. Globally, trailing 12-month defaults across high yield markets remain below the long-term average due to solid operating results and an open refinancing market. Looking ahead, we anticipate continued primary market activity as companies address upcoming maturities and investors deploy cash balances. We expect the “higher for longer” theme to remain intact based on continued economic strength, and are managing credit spreads, positioning, and portfolio duration profiles accordingly. While credit spreads are inside long-term averages, we believe that credit investors who focus on yields that are above long-term averages are being appropriately compensated during this period of continued economic expansion.
Past performance is not a reliable indicator of current or future performance.
Muzinich views and opinions are for illustrative purposes only and not to be construed as investment advice.
This material is not intended to be relied upon as a forecast, research, or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed by Muzinich & Co. are as of March 2024 and may change without notice.