Capital Ideas^TM

It is no secret that the past 12 months have been extremely challenging for fixed income investors. High inflation and central bank rate hikes weighed on markets in 2022. More recently volatility has re-emerged, prompted by instability in the banking sector in the first quarter of 2023.

For investors wondering how to navigate fixed income markets from here, there are reasons to be positive. The silver lining of the weak bond returns in 2022 is much higher yields – and by extension, the scope for higher income - than we have seen in many years. This offers fresh opportunities across broad credit markets and could set the stage for positive returns going forward.

With starting yields at levels between c.5% and 8.5%, depending on sector, the potential for fixed income assets to generate higher income is positive. However, price movements over 2022 were driven primarily by an extreme and rapid change in rates, alongside more persistent inflation. This has had an indiscriminate impact on broad fixed income markets. As a result, fixed income assets have become attractive across the entire spectrum.

Given the uncertain economic environment, there is still likely to be wide dispersion in returns across fixed income sectors. By investing broadly to diversify risks rather than concentrating exposure in one sector, there is the opportunity to generate an attractive high income and more consistent returns.

We have identified four key credit sectors that, combined, target reliable income with an attractive risk/return profile. Each sector has its own distinctive characteristics that complement each other to support a stable income stream.

US high yield provides the potential for a higher level of income. It is a sector with depth and breadth worth c.US$1.2 trillion¹ spanning a multitude of industries and issuers. Although associated with higher credit risk, 50% of the index is now rated BB (the highest credit quality for high yield)¹ and offers a yield of 8.5%.²

Investment grade corporates are higher quality credits, but have longer duration so are more sensitive to movements in rates. This is the largest sector in the credit universe; it is well-diversified across issuers and industries, and includes securities with maturities across the yield curve.

Emerging market debt offers diversified sources of income and return. The market for sovereign emerging market US dollar bonds is worth US$1.1 trillion and has average credit rating of BBB-.³ It is a diverse with more than 70 investible countries across Asia, Europe, Africa and the Americas. In terms of credit quality, opportunities extend across investment grade and high yield issuers.

Securitised credit is an under-researched area that provides potential for alpha opportunities. Securitised credit offers a higher level of income than comparably rated investment grade corporates, while typically offering similar capital preservation features. Many of the fundamental drivers are distinct from corporate and sovereign credit, bringing diversity to a portfolio.

We believe that combining the power of four credit sectors could be a very attractive way to deliver clients a reliable income stream.

Diversification across credit sectors underpins Capital Group Multi-Sector Income Fund’s (LUX) ability to target consistent income with lower volatility. All four sectors of the credit universe play an important role in income-seeking portfolios. The high income of the high yield and emerging markets debt sectors are balanced by the defensiveness of the higher quality investment grade corporates and securitised sectors. The shorter duration of high-yield and securitised credit temper the higher interest rate sensitivity of the investment grade and EMD sectors.

Capital Group Multi-Sector Income Fund (LUX) is part of a strategy that was launched in the US in March 2019 with the same investment team.

To read more about how Capital Group Multi-Sector Income Fund (LUX) targets income and stability, download the full paper.

 

¹As at 31 December 2022. As measured by Bloomberg US High Yield Corporate - 2% Issuer Capped Index. Credit rating based on the higher of S&P/Moody’s/Fitch. Sources: Bloomberg, JPMorgan

²As at 31 March 2023. Yield to worst Bloomberg US High Yield Corporate.- 2% Issuer Capped Index. Source: Bloomberg

³As at 31 December 2022. As measured by JPMorgan EMBI Global Diversified Index. Credit rating based on the higher of S&P/Moody’s/Fitch. Source: JPMorgan

 

Disclaimer

Statements attributed to an individual represent the opinions of that individual as of the date published and may not necessarily reflect the view of Capital Group or its affiliates.

Risk factors you should consider before investing:

• This material is not intended to provide investment advice or be considered a personal recommendation.
• The value of investments and income from them can go down as well as up and you may lose some or all of your initial investment.
• Past results are not a guide to future results.
• If the currency in which you invest strengthens against the currency in which the underlying investments of the fund are made, the value of your investment will decrease. Currency hedging seeks to limit this, but there is no guarantee that hedging will be totally successful.
• The Prospectus – together with any locally-required offering documentation – sets out risks, which, depending on the fund, may include risks associated with investing in fixed income, derivatives, emerging markets and/or high-yield securities; emerging markets are volatile and may suffer from liquidity problems.
• The fund may invest in financial derivative instruments for investment purposes, hedging and/or efficient portfolio management.