US high yield outperforming against the odds but can it sustain this momentum?

Added 9th May 2016

The US high yield market has “rebounded strongly” from a dreadful showing in 2015, continuing to offer the most value in the energy space in spite of plummeting oil prices and worsening credit fundamentals, according to Heartwood Investment Management’s investment director David Absolon.

US high yield outperforming against the odds but can it sustain this momentum?

The high yield market has experienced a remarkable 12% appreciation since mid-February, outperforming the S&P 500, the FTSE 100 and 10-year US treasury bonds, as well as emerging market debt and equities, Absolon pointed out. The energy and metals and mining sectors have been the strongest performers overall, yielding returns of 13% and 19.57%, respectively, in the year-to-date end of 29 April 2016.

Absolon attributed the high yield market’s drastic comeback to improving investor sentiment on the back of recovering commodity prices, “a dovish central bank policy, reduced concerns about US recession risks and global growth.”

“As a result of the better tone in credit markets, demand for high yield funds has outstripped supply since mid-February, providing another underpin to the asset class,” he added.

Even all the way back in December 2015, an undeniably tougher climate for high yield bonds, Absolon was identifying the energy sector as rife with opportunities. However, he expressed concerns over whether this trend could continue in the long-run.

“The current environment of low interest rates and moderate growth should continue to support the high yield asset class in the short term," Absolon said. "However, we do see more risks on the horizon for the US economy over the medium term, particularly as manufacturing data has yet to show a convincing trend of recovery; at the same time, core inflation is creeping higher.”

Ian Stealey, fund manager of JP Morgan Global Bond Opportunities Fund, added that the performance in the future for high yield bonds would be dependent upon oil prices and the behaviour of the US economy in general.  His prognosis of the current state of US economy was encouraging however: “In a world where jobs are still being created and wages are increasing, the consumer looks to be in pretty decent condition.”  

For the time being, Absolon intends to maintain his portfolios’ exposure to US high yield energy bonds because of the current risk/reward ratio. “We are encouraged by energy companies’ proactive response to supply/demand pressures through aggressive restructuring, asset sales, job cuts and capital expenditure cuts. These measures are giving breathing space to many companies, as well as much needed capital.”  

Absolon remained adamant in his conviction that “high yield energy is one of the few areas of the market that offers value and where the yield cushion is sufficient to absorb the potential for capital loss.” 

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