Defensive on credit
We have become defensive on credit, expecting core sovereign yields to fall further in the coming months while credit spreads could widen again as economic activity deteriorates in the US and Europe due to the virus.
As central banks proceed with monetary easing, either by cutting rates and/or by injecting liquidity, we see the 10-year US Treasury yield remaining close to the current low level of 0.9% (on March 5) until summer and the equivalent Bund yield falling from -0.7% towards -0.8%. In other words, core government bonds will continue to fulfil their role as safe havens, as has been the case since the beginning of year.
We have been underweight US high yield (HY) for several months already, but we have lately also downgraded our stance on euro high yield from neutral to underweight. This is in keeping with our concerns about the lack of liquidity in this segment and the likelihood of difficult times ahead for the weakest issuers as euro area growth slows down meaningfully. We see credit spreads across the globe widening between now and summer, with the magnitude lower for investment grade than for HY. We expect euro credit spreads to continue to be more resilient than US ones thanks to the support of the European Central Bank.
We remain neutral on EM corporate debt, a sector in which we prefer quality, especially investment grade. The fact that some EM companies have been leveraging up, especially in the high-yield space, could lead to wider credit spreads in spite of EM central banks’ accommodative policies. EM corporates still pay an attractive premium over developed market ones. But economic uncertainties lead to us favour EM investment-grade companies over juicier high-yield ones, as sounder fundamentals will enable the former to better weather any coronavirus-related economic slowdown.