BlackRock warns that ongoing trade wars may lead to further deterioration in corporate debt, increasing risk and potential downturns.
Despite market volatility, focusing on higher-quality securities could present opportunities for resilient investments amid widening credit spreads.
Deep dives
Current Market Dynamics
Global markets are experiencing significant volatility due to trade wars and concerns regarding the independence of the U.S. Federal Reserve. U.S. equity markets have seen declines, and the dollar has also dropped, with bond yields increasing. Despite these troubling macroeconomic conditions, the credit market's reaction remains relatively stable, as spreads have widened only to fair value after previously tight trading. Although there are signs of stress, fund outflows and halted primary market issuance indicate that caution is increasing among investors.
Credit Quality Resilience
The high-yield market shows a significant improvement in credit quality over the past two decades, with a notable increase in double B rated bonds and a decrease in triple C rated bonds. This high grading reflects a shift towards larger, more diversified businesses capable of withstanding economic volatility. The current fundamentals present a better starting point for the high-yield market, offering some cushion against anticipated downturns. This higher quality composition is expected to provide more resilience to the challenges posed by the economic slowdown.
Investment Strategy Amid Uncertainty
Investors are encouraged to focus on higher-quality securities within the credit market as spreads widen and defaults become a possibility. Allocating capital wisely, particularly during periods of increased volatility, can lead to significant opportunities. Investors should be prepared for fluctuations over the coming months, but consistent purchasing of quality bonds could yield favorable results in the long run. Emphasis on strong sectors, such as insurance and aerospace, alongside caution in sectors particularly exposed to tariffs, is advised.
Market Liquidity and Future Outlook
Market liquidity remains adequate despite recent bond and loans outflows, allowing investors to trade effectively during periods of stress. Notably, higher-quality credits are attracting increased interest from institutional investors, hinting at a potential turnaround. Challenges remain in the leveraged loan market, which exhibits more credit quality risk compared to high-yield bonds. While there is a cautious approach to the market, ongoing volatility may present additional investment opportunities, underscoring the importance of understanding the economic context.
Risky corporate debt markets have room to fall further to reflect the damage of ongoing trade wars, according to BlackRock, the $11.6 trillion money manager. “We’re likely to see spreads widen from here as we see further deterioration in risk assets,” Mitch Garfin, the firm’s co-head of leveraged finance, tells Bloomberg News’ James Crombie and Bloomberg Intelligence’s Robert Schiffman in the latest Credit Edge podcast. “If this uncertainty continues for another quarter, two quarters, three quarters — that could lead to a more significant downturn.” Garfin and Schiffman also discuss private credit relative value, distressed exchanges, technology sector opportunities, portfolio trading and auto sector risk.
