CIO’s Perspective: 2018 Half-Time Leveraged Credit Review and Outlook

Posted on July 5, 2018

1st Half 2018 Review

During the first half of 2018, high yield bonds produced a modest gain of 0.08% (as measured by the ICE BofA Merrill Lynch U.S. High Yield Bond Index (“HYBI”)), representing the worst first half performance by the asset class since the financial crisis of 2008. 

It is important to note that the disappointing performance was not driven by deteriorating fundamentals in the high yield market, but primarily due to rising interest rates, widening spreads in the upper tier (e.g., BB/B) segment of such market, and significant mutual fund outflows. In fact, the U.S. economy displayed signs of fundamental improvements – including with respect to high yield issuers – as pro-growth policies favored by the current presidential administration (e.g., tax reform passed at the end of 2017) were implemented. The improving growth outlook and tightening labor market drove the rise in interest rates as the Fed increased the number of interest rate hikes expected this year.

Geopolitical tensions, particularly relating to North Korea, improved during the period; however, concerns by market participants about a trade war rose and contributed to periods of heightened volatility. Meanwhile, leveraged loans produced a gain of 2.33% during the first six months of 2018 (as measured by the J.P. Morgan Leveraged Loan Index (“LLI”)). Leveraged loan mutual funds continued to experience significant inflows as the interest rate protection offered by the floating rate nature of most loans remains attractive to investors given expectations that interest rates will increase.

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