Capital Ideas^TM

The global corporate bond market benefitted from a resurgence in investor sentiment in the final three months of 2023. Optimism about the prospects for policy rate cuts by central banks, together with expectations for a relatively resilient economic outlook, led to tighter credit spreads. Corporate issuers took the opportunity to issue a large volume of new bonds, which were taken up very well by the market overall. The global corporate bond index spread (Bloomberg Global Aggregate Corporate Index) ended the quarter at 115 basis points (bps), 20bps tighter versus end-September levels. However, the move was not in a straight line: October saw the spread rise as high as 144bps as the ‘higher-for-longer’ mantra took hold, before it tightened all the way down to 115bps.

US corporate bonds outpaced their European counterparts. US corporate bond spreads tightened by 22bps to finish the quarter at 99bps, whereas spreads on European corporate bonds tightened 16bps to finish the quarter at 138bps. These respective movements meant the spread between US and European corporates widened 7bps to 39bps. This is perhaps unsurprising given the euphoria around potential monetary policy easing in 2024 was focused on the US, with the US Federal Reserve (Fed) now forecasting three rate cuts in 2024, whereas the European Central Bank has pushed back against expectations for cuts.

The global economic, geopolitical and monetary policy outlook remains uncertain. The potential for recession and weakening corporate fundamentals are still present, despite the significant improvement in financial market conditions over recent months. At an index level, valuations are not compelling overall, as corporate credit spreads are slightly tight versus historical averages. However, there are pockets of opportunities, given wider spreads in European corporate bonds versus their US counterparts, and better valuations in bonds issued by financials companies than those in the industrials sector.

Investor demand for corporate bonds remains very solid and recent heavy issuance has been taken up well. The all-in-yield of global corporate bonds remains reasonably attractive, and the opportunity to secure today’s yield levels may not be sustained for long given the potential for interest rate falls in 2024, as predicted by the market (and now the Fed). Given the uncertainties, we are not positioned for one particular macroeconomic outcome in global corporate bond portfolios – instead our focus is on finding idiosyncratic opportunities at the company and sector level, such as in banking, utilities and chemicals.

Corporate bond OAS

Data as at 29 December 2023. IG: investment grade, OAS: option adjusted spread. Indices: Bloomberg Euro Aggregate Corporate Index, Bloomberg US Corporate Investment Grade Index, Bloomberg Global Aggregate Corporate Index. Source: Bloomberg