December 17, 2024 • 53 mins
Credit spreads are poised to hit record tight levels in the first quarter, even as debt issuance rises, according to participants in this special 2025 outlook edition of the Credit Edge podcast, hosted by Bloomberg’s James Crombie. We discuss bonds, loans, private credit — and bourbon — with the following guests: Kathy Jones, chief fixed income strategist at the Schwab Center for Financial Research; Ana Arsov, global head of private credit at Moody’s; Matt Brill, Invesco’s head of North America investment-grade credit; Meghan Robson, BNP Paribas’ head of US credit strategy; Meghan Graper, global head of debt capital markets at Barclays; Winnie Cisar, global head of strategy at CreditSights; Matt Mish, head of credit strategy at UBS; Oleg Melentyev, Bank of America’s head of high-yield credit strategy; and Aidan Cheslin, senior credit analyst at Bloomberg Intelligence.
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Episode Transcript
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Speaker 1 (00:18):
Hello, and welcome to a very special outlook edition of
the Credit Edge podcast. My name is James Crombie. I'm
a senior editor at Bloomberg. This is a star studed
episode packed full of great interviews with investors and analysts,
recorded during a recent Bloomberg Intelligence event in New York.
All of it is exclusive to the Credit Edge Podcast.
Our guests discuss everything from where bond spreads are going
(00:41):
and how much new debt US companies will raise in
twenty twenty five, to how large private debt markets will
actually get and the main things to worry about the
next year. This being Credit Edge, we also have a
little bit of fun. Check out our conversation with Matt
Brill at Invesco about his annual purchase of two hundred
bottles of bourbon that he's laps a credit themed label
(01:01):
on to inform the strategy ahead. Thanks very much to
everyone for listening. Let's get to it so, Matt Brill,
head of North America Investment Grade Credit at Invesco, Welcome
to the Credit Edge.
Speaker 2 (01:17):
Thanks for having me.
Speaker 1 (01:18):
You just gave a really interesting presentation at the event,
the BI event in New York. You know, lots of
really interesting stuff, lots of great numbers and all that.
I'm mostly interested though, in the bourbon, not just because
I've been here long enough to appreciate it. You know,
obviously in moderation, everything in moderation. But what's that all
about the bourbon?
Speaker 2 (01:37):
Yeah, So at Invesco, we actually had a bunch of
the team was brought in from Louisville, Kentucky, about ten
years ago. So we have a bunch of bourbon experts
on the team, and one of them every year goes
and buys a barrel bourbon in Kentucky. You got to
go try it out.
Speaker 3 (01:52):
You do all these things.
Speaker 2 (01:53):
It's not easy. You can't just walk in there and
say you want to buy one, So you gotta have
some connections. You do that, and then you can get
anywhere between called one hundred and fifty and two twenty
five bottles of bourbon come out of each barrel, and
then we put a label on it, come up the
cool little ig bond market logo and name, and then
we then we then we consume it slowly.
Speaker 1 (02:14):
How does it relate to credit?
Speaker 2 (02:16):
Well, we've had names like by Triple B's, which was
buckled barrel Bourbon. We had curve flattener, which was around
credit curve and also around the time of the COD
with COVID and trying to flatten the COVID curve. What
else did we have we had I can't remember which one,
but they always it's something. It's it's usually a trade
related of what's happening in the market. We have not
(02:37):
had this year's yet, so I can't reveal what it's
going to be. But when it does, I'm sure you'll
like a taste. I'm happy to bring you one.
Speaker 1 (02:43):
We definitely wants to taste. So the other big thing
that jumped out is fifty five basis points spread on
US investment great bonds. You know that's never been seen. Yeah,
why why? Why so tight?
Speaker 4 (02:54):
Yeah?
Speaker 2 (02:55):
So we've looked at this from multiple different ways. So
first off, dollar price as credit quality adjusted, duration adjusted.
You know, the spreads are tight, but they're probably not
as tight as you think that they are. But then
really the big wild car that we think people are
undervaluing is the liquidity that's in available in the market,
mainly due to portfolio trading. So technology, but mainly portfolio
(03:16):
trading has gone from like two percent to fifteen percent
and it's driving liquidity costs or liquidity premium of owning
a not a risk free bond, but a very low
risk bonds in the investment grade market, and we think
it's driving them lower. We think it's going to continue on.
Speaker 1 (03:30):
And there are other things that right, there's better credit quality,
there's what else did you say you have?
Speaker 2 (03:35):
Well, fundamentally, so companies, I think companies prepared for the worst.
They were expecting a recession. So we were told so
many times the last three years we were about to
go in recession that CFOs, treasurers, CEOs, et cetera all said,
I need to have a really good balance sheet for
when we go into this procession. Well, guess what we're
not in recession. The economy is still good, they have
great balance sheets, and then yields overall are very very attractive.
(03:57):
So yields are what are driving we think the demand
for fixed in particularly investment grade, and we don't see
any signs of that letting up. And so unless there's
some sort of fundamental change of the economy or particularly
with IG corporate credit or large corporations, we think you're
going tighter and you we think you're gonna hit fifty
five on the credit indicies when well, I think the
timing and as I stated in the in the in
(04:18):
the speech there is it's not really if, but when.
So to me, the first quarter, you know, is always
always a good or almost always a good period of
time for corporate credit. So I think as you get
through the first quarter, people are going to think, Okay,
maybe that was the wave, but it's going to continue on.
So for me, I think before before the summer, you'll
you'll hit fifty five.
Speaker 1 (04:39):
And the other thing you pulled out in terms of opportunity,
that's utility hybrids. Can you talk a bit about that?
What's that all?
Speaker 2 (04:45):
Yeah, So utility hybrids are are really a booming supply standpoint,
you know, type of opportunity. So there's there's about fifteen
billion issued this year, there's probably gonna be twenty to
twenty five billion issued next year. Well with AI, and
everybody's all excited about AI, Well, how do we invest
in that in the fixed income world? So AI is
driving power demand, data centers and the like, and you
(05:07):
need more power generation from utilities in order to support that.
And so there's going to be a lot of cap
X for utilities over the course of the next several years,
and they need to pay for that, and can they
do it out of by issuing equity or do they
want to issue debt? And if they issue too much debt,
they're going to get downgraded. So what they are choosing
to do is what's called a hybrid. It gives them
fifty percent equity treatment at the radio agencies for ten years,
(05:30):
and it's fifty percent debt treated. So they kind of
getting right in the middle there, and they're generally around
six and a half, some even as much as seven percent.
They're usually investment grade rated, they're regulated utilities. They are
all the ones that you already know they're subordinate, So
there's some risk involved there, but overall, because the demand
is based on this AI growth, it's not really economically sensitive.
(05:55):
I don't really feel like so the demand is going
to be there, the generation needs to be done, and
we think it's a great upportunity to get six and
a half plus percent yields.
Speaker 1 (06:02):
Going back to the spreads point, does that record low
spread not attract every issue? You know, given that they
also be wanting to fund extra m and a next
year potenty, does that blot the monkey with supply.
Speaker 2 (06:12):
Yeah, so that is a concern of mine, for sure.
I would be very concerned. I'd start getting concerned as
soon as we start seeing large m and A that
is debt funded, We're going to see more MNA. It's
gonna be less regulation, more deregulation.
Speaker 1 (06:24):
Next year.
Speaker 2 (06:24):
If we start seeing large m and A deals that
are debt funded rather than equity, at least a mix
of equity being in there, that'll concern me. But to
date we haven't seen it. But you got to remember
it's about yield. So at the end of the day,
if you're a corporation, yes, your spreads are not really
you know, very punitive, but you're all in. Yield is
still punitive to be borrowing at five plus percent. So
(06:45):
I think most corporations aren't dying to to issue more
debt to to to do an m and A acquisition,
and they'd rather have a mix of equities. What are
at all time high, So I'd say equities are a
little bit cheaper source using rather than debt at this point.
Speaker 1 (06:58):
So the golden age for bunds, as you put it
on our show early this year, that still continues, and
nothing else to worry about.
Speaker 2 (07:05):
There's always things to worry about, but I do think
fundamentally speaking, you're on a really good path. The economy
looks really good, balance sheets are great, yields are This
is a year that I think a lot of people
thought they would have made more money in bonds, and
for second there was it was a little bit you know,
nerve racking. But at the end of the day, you're
probably still going to get four of six percent and
most investment great bond funds on the year, and you're
(07:26):
setting up for another really good year next year.
Speaker 1 (07:33):
So, Kathy Jones, chief fixed Income Strategists at the shwelve
percent of for Financial Research. You've noted that there is
risk out there, there's a lot of volatility, but yields
are still high, and as you've written, volatility can translate
into opportunities. So what are those big opportunities in credit
for next year?
Speaker 5 (07:51):
Yeah, we think that you can look at intermediate term
you know, shorter duration or intermediate term investment great credit
and still get pretty decent yields. If you want to
take a little bit more risk, take the duration risk.
The yield curve is steepened quite a bit, so you
do get rewarded for taking that risk. We're not really
(08:12):
crazy about a lot of duration risk at this stage
of the game. But if you have a view that
you're really a buy and hold investor, or if you
have a view that rates have more room to come down,
then that is an opportunity relative to where else you
can go in fixed income. We also looked at investment
grade floaters. The current yields at the short end are
(08:34):
higher than treasuries, so you get some you know, very
short duration, get some attractive yield, and if rates do
go up, you will ride that wave up.
Speaker 1 (08:46):
But spreads still up very very tight. Indeed, how do
you fact that into your analysis?
Speaker 5 (08:51):
Yeah, that's the tough part. So we look at it
and kind of the short version is fundamentals are good,
but valuations are really stretched. So if we had a
view that we were headed towards a downturn in the
economy or some sort of credit event, we would be
more concerned about spreads. That we do think there's room
(09:11):
for spread widening, but in investment grade it shouldn't be
something that really detracts seriously from your total return. If
I were in really low credit quality, I'd be more
concerned about it. But in investment grade you can probably
ride out some of the ups and downs and still
get a pretty decent return.
Speaker 1 (09:33):
In the low end of the credit spectrum, I mean
I'm talking the really risky stuff, you know, triple C
rated debt. You have really been rewarded this year for
taking risk. You know, you're fifteen percent if you look
at the global Triple C index, which is quite impressive.
You can't really fight this huge pile of cash. There
isn't enough to buy. There's a you know, very bullish
feeling about next year in terms of the new administration.
(09:54):
What do you do in that situation? How do you
balance the obviously the fundamental concerns against the very strong technicals.
Speaker 5 (10:00):
Yeah, what we're doing is shying away from going too
far down in credit quality, and we may miss, as
we did for the second half of this year, miss
a lot of spread tightening from here, but really, how
much more will they tighten? Even on good news? A
lot of good news is priced in, and I think
the worst case scenario is really a stagflation scenario that
(10:21):
would really be a negative and obviously those triple cs
would get hurt. Not that you maybe can't get some
decent returns again this year, if we continue to have
pretty easy financing conditions, if the economy does do well,
if that risk appetite stays really high, I could make
the case, but I think the risk reward just isn't
(10:44):
there for somebody who is not a really specialized investor
who knows that space.
Speaker 1 (10:57):
Megan Rolbson, head of US Credit Strategy at BNP By,
Welcome to the Credit Edge. Thanks for having me, Thanks
so much for being here. So you are concerned about
the risks of a FED pause, about inflation, about rates
volatility for next year, tell me how does that affect credit?
Speaker 6 (11:12):
So heading into next year, we're still We're still constructive.
We do think valuations are tight, but you still have
this very strong demand from from the yield buyer, and
so we are watching. We are calling for some modest
spread widening, and we do think that there's risks percolating
in the system related to policy, but it is in
(11:35):
our view too early to position for those. So we
think that yields are so high investors are really going
to benefit more by holding credit into first quarter. We
can see what Trump ends up doing before really adjusting
portfolios or turning negative on credit?
Speaker 1 (11:51):
What does that mean for spreadso modest widening, I mean,
how much are we talking about?
Speaker 6 (11:54):
Yeah, so in IG or in hi yield we're calling
for a spread target of three hundred basis point, so
it's about a fifty basis point widening, and then in
IG we're calling for about ten basis points widening, so
some decompression. There are some underperformance of high yield relative
to IG.
Speaker 1 (12:11):
Okay, and do you expect a lot more supply next
year on a net basis, we're talking about a lot
more M and A potentially.
Speaker 6 (12:17):
So BNP has an out of a little bit of
an out of consensus view, and that we're expecting the
tenure to drift a bit higher, so to a level
around four sixty five. I do think that there will
be this impulsive M and A with deregulation, but given
the rates, the higher rates level, I think that's going
to keep a lid on really seeing too much of
an increase. So we do build in about a fifteen
(12:39):
percent increase in net supply next year, but this is
from very low levels, so I think it could be
well absorbed into the market.
Speaker 1 (12:47):
Okay, on the rates side, if rates do stay up
that high, and you know everyone's talking about higher for longer.
One of our guests used the words normal for longer.
So it depends on how you look at it. But
doesn't that put the weak borrows in a very tough spot?
Speaker 6 (13:02):
So we have taken some it does. I think it
will be a challenge for Triple c's. We've had an
overweight to Triple C's following the US election and we've
just rotated out of that. Trade has performed really well.
But heading into next year, if you do see this
drift higher end rates or a FED pause, I think
that part of the market is especially especially vulnerable. So
for us, we do like still taking credit risk. We
(13:23):
would do so in the single bee market, so I
think especially loans. Single bee loans look quite attractive on
a carry basis.
Speaker 1 (13:31):
Okay, And it's a more deffault potentially on the Triple
c's or more liability management, that kind of thing.
Speaker 6 (13:35):
We're calling for some I think it'll be very liability management,
very sector specific, so I think in media in particular,
we're expecting a few of those. We do think overall defaults, though,
will we'll start to move lower. So we have two
and a half percent for high yield, and we think
that loans will move down to four percent, so still
a little bit elevated, just given that our call for
(13:56):
rates to be a little bit higher than most people expect.
Speaker 1 (14:00):
You like services, though, you like cruise lines, what's the
story there?
Speaker 6 (14:04):
So cruise lines have had you know, they're booked well
into next year. So I think the fundamentals forward looking
look attractive. The balance sheets have been cleaned up, We've
seen a lot of debt paydowns, and then if you
look at ratings and ratings forecasts, there are some solid
rising star candidates for next year. So I think in
terms of credit momentum, you could see ratings improve into
(14:28):
twenty twenty five.
Speaker 1 (14:30):
What I mean we're seeing is there anything else that's
giving you the edge in terms of credit right now?
Speaker 6 (14:34):
So we like we like avoiding building products in high yield.
I think this is a key call, and it's an
interesting one because there's a lot of converging factors. Higher rates,
higher mortgage rates will weigh on building products as people
struggle with higher mortgage rates. There's also an immigration angle,
so you have construction relying more on undocumented labor. You
(14:56):
could see some some vulnerabilities there depending on on what
President Electromp decides to do. And then there's also a
little bit of a terriff exposure as well from input
costs on building products. So that's a key area to
underweight and to hedge some of the policy risks for
next year.
Speaker 1 (15:18):
When he sees Our global head of Strategy, Credit Sides,
Welcome to the Credit Edge.
Speaker 7 (15:22):
Thank you so much for having me.
Speaker 1 (15:24):
You have just mentioned on a panel here at THEBI
event status woe. What does that mean? Can you unpack
that for us? Please?
Speaker 7 (15:31):
Well, it could mean a lot of things, right. It
could be woe in a good way, as we have
a lot of expectations around deregulatory and continued fundamental progress.
Or it could be whoe as in what is happening
here with a new regime coming in and a number
of policies that may not be quite as positive as
(15:52):
perhaps the market is expecting.
Speaker 1 (15:54):
Spreads are too tight according to your comments today, how
wide should they be?
Speaker 7 (16:00):
So we think that a recalibration of spreads would be appropriate.
Our year end twenty twenty five target for high yield
spreads is three hundred and fifty basis points, so call
it seventy five to one hundred basis points wider than
where we are currently on expectations that forward, fundamental expectations
start to feel a little bit weaker than where we've been,
(16:20):
and perhaps the technical bid is not going to be
there as much to support valuations.
Speaker 1 (16:27):
What happens to that technical bid though, I think everyone
is so convinced that there's always cash on the sidelines,
that there's barn demand, that there's cash just being recycled
from coople on payments and maturity everything else. What's the
sort of you know, warning sign view on the on
the demand side.
Speaker 7 (16:40):
Well, the thing is there's always liquidity in the system
until there's not, and that switch can flip very quickly.
Right now, the liquidity and those strong technicals are very
much predicated on continued FED easing expectations and economic momentum.
If we see one of those two things change. So
if we expect that the FED is maybe not going
(17:01):
to be cut in quite as aggressively as the market
is currently pricing in, or perhaps they'll have to cut
even more aggressively because there is some sort of fundamental
issue of broad based economic deceleration, then those technicals really
can shift very quickly.
Speaker 1 (17:16):
You've also mentioned massive supply out of the gate, which
makes sense given how tight spreads are. Inovation is going
to want to take advantage how much supply and what's
it going to be for.
Speaker 7 (17:24):
So we think that in the high yield market it's
still going to be mostly refinancing, and our expectation is
for about three hundred billion of gross supply, which would
actually be a little bit of a downstep in twenty
twenty five compared to twenty twenty four levels, and that's
because we do expect spread volatility is going to pick
up in the broadly syndicated loan market. I think this
(17:45):
is where we could see the animal spirits really start
to work their way through the system again with more
m and a more LBOs. And importantly, we've already seen
dividend deals really increase in the loan market in twenty
twenty four. I don't see what stops that in the new.
Speaker 1 (18:00):
Doesn't that just mean the whole load of more risk.
Speaker 7 (18:03):
It does feel like that, And even before the outcome
of the election, we had been expecting a shift from
those balance sheet defense strategies to consolidation, those middle innings
of the credit cycle, which are consistent with things like
intentional releveraging, and that really brings execution risk to the
front and center.
Speaker 1 (18:23):
Where's the best value right now? Is it duration? Is
it credit risk? What do you like?
Speaker 7 (18:27):
So right now we do not love duration risk. We
actually re upgraded the broadly syndicated loan market to a
neutral weight allocation versus US and investment grade and high yield,
where we are underweight because we do think that there
will be a recalibration of FED expectations with fewer cuts
getting priced in and perhaps even rate hikes coming back
(18:48):
into the equation in sometime in twenty twenty five or
early twenty twenty six. So we like shorter duration, We
like floating rate. We don't want to get two over
our skis, and credit risk as borrowing costs are going
to be challenging if rates stay a little bit more elevated.
Speaker 1 (19:03):
But credit risk has really rewarded the brave this year.
Triple c's are up fifteen percent in terms of you know,
the global index we track. You sound cautious, so I mean,
but on the other time, you can't refight this power
of the market, all this cash. You know that maybe
you know you risk underperformance if you do, so, how
do you balance those?
Speaker 7 (19:22):
Yeah, this is a tricky one, and I feel like
we've been on the right side of the trade. We
came into twenty twenty three positive on credit risk. We
doubled down at the beginning of twenty twenty four, and
we've been notching down our risk tolerance as spreads have
hit levels that we think are not as sustainable. So
we realize there is that kind of tide that a
lot of people are fighting against where perhaps they were
(19:44):
a little bit overcashed at the beginning of this year
and under risked, And I fully empathize with the portfolio
managers who have been dealing with that. But we do
think having a bit more of an up and quality
bias makes some sense.
Speaker 1 (19:57):
You do have a global perspective, and I'm interested in
your view other regions. Everyone is so loaded up on
US assets and the dollar and all that stuff, but
surely there's value in other places Europe, Asia, where else.
Speaker 7 (20:07):
Yeah, so we are sticking with a neutral allocation to
euro high yield versus underweight US. We see a bit
more spread value there. Alignment to domestic issuers can help
mitigate some of the things like tariff risk, and we
think that the risk reward there can be a little
bit more attractive as valuations have lagged. We also like
EMIG sovereigns. That's another place where you're getting a little
(20:31):
bit more yield and spread pickup than say the US
investment grade corporate market. And we see some potential for
continued relative performance.
Speaker 1 (20:39):
And is there one big risk for next year that
really worries you.
Speaker 7 (20:43):
There are so many risks that worry me for next year.
And I think that the big takeaway is there's a
lot of positivity being baked into market expectations and current valuations,
and that leads to complacency, and being complacent in an
environment that is rapidly changing can oftentimes be very detrimental
to portfolio performance.
Speaker 1 (21:09):
Ohleg Melentia, I've head of high your Credit strategy at
Bank of America. Welcome to Credit Edge. Thank you, James,
so earlier on the Credit Edge earlier this year, I
should say you made some great points about the riskiest
end of credit markets. We talked about US companies with
about two hundred billion dollars of debt, roughly ten percent
of the high bond market that probably won't survive the
(21:32):
current period of elevated interest rates unscathed. Since then, you know,
the outlook for rates has probably become even more challenging
for some of those borrowers. What's the situation and what
should we be looking for next year?
Speaker 8 (21:45):
So I think the most important development in the last
few months has been the completion of several liability management
exercises among those issuers. Some of the largest capital structures
have undergone those enemies, and if anycent that provided a
little bit of a relief in the market that those
(22:07):
issues are at least temporarily behind us. We don't know
that those are permanent solutions are not historically elements working
about sixty percent of cases, they don't work in the
other forty So time will tell, But in immediate sense,
it's it was definitely a relift to the market.
Speaker 1 (22:25):
But there's still this worry about this what you call
the bossom ten percent. What specifically should we be looking
for there? I mean, is there is there going to
be a big increase in devotes, There is there going
to be a lot more stress, a lot more bankruptcies.
What do we expect in that ten percent?
Speaker 8 (22:39):
So that ten percent, in our mind has not really
changed that much just in terms of over looking situation,
because look, leverage is still there. You know on average
that deactyle is lovered about eleven times. Interest coverage in
many cases is close to one. Sometimes they don't even
(23:01):
make enough money to pay the coupon? Did that to
enterprise value another measure we look at closely eighties percent,
So over time, unless we do see interest rates coming
down substantially, we do think this is an ongoing lemy material.
Speaker 1 (23:18):
Yeah, so it's going to be more liability management exchanges,
which for our listeners who don't follow this close to
it basically means a loss of haircut for investors, right,
they're taking a hit.
Speaker 8 (23:26):
So what it means is the last stop, hopefully the
last stop, but eight stop before bankruptcy. Right, bankruptcy process
is expensive, the recovery is are low. Everyone involved in
that situation prefers not to be in a bankruptcy court,
so they trying to solve those issues out of court.
(23:49):
And so in vast majority of cases, liability management exercise
is where both investors and issuers and sponsors go first. Again,
the question is the bankruptcy allows for a deeper structuring,
deep put that rite offs coupon extensions, et cetera, liability
management exercise. You have to reach that consensus essentially outside
(24:12):
of the courtroom, which which makes it more challenging. But
then recoveries are better, and the expectation is that maybe
that small change in cap structure is what's needed to
make it work.
Speaker 1 (24:22):
And is it fair to say that this ten percent
of the market is bottom you know, the worst quality
parts of credit. We kind of know where it is,
We know what it is by now, and we just
avoid it and we carry on and everything else is
great for the rest of credit. I mean, it seems
like everyone's kind of isolated that and there's no contagion,
there's no spillover, there's no kind of even sentiment hit
for other investors across credit.
Speaker 8 (24:45):
Yeah, look, it's going to take a very substantial deterioration
in kind of broader micro picture for any substantial credit
loss beyond that bottom descile. Like just realistically speaking, we
have to go back to the global financial crisis to
see default rates you know, north of ten percent, and
(25:06):
that that was an obvious calamity, right, so we we
haven't experienced tennis and like that since then, we haven't
experienced tennis and like that for decades before that, So
I would you know, put that at black swan event.
We can't forecast them, but can just hope they don't
repeat themselves. You know, in a garden variety of recession,
even if we get into one at some point our
(25:28):
enforeseeable future, we were pretty comfortable in saying default rates
should stay well inside of ten percent.
Speaker 1 (25:34):
Are you know it's speaking today? Matt Breil from Invesco
made really kind of extremely pulish call on IG spreads.
I know you look at Yoda, I'm going to ask
you about anyway, fifty five basis points never been seen before.
And I asked him after this, how long is it
going to take? He said, by the first quarter, which
has to you know, if it happens. I'm not saying
that you think it does, but if it does, then
it has to reprice credit across the board. It means,
(25:56):
you know, everything just becomes dramatically size of First well,
I mean, do you think that that's at all a
feasible outcome? And secondly, what would it do to high
yield it did happen.
Speaker 8 (26:07):
I think there is a decent chance it happens, So
we have a similar call on the high yield side.
We're basically saying there is a decent chance we break
through historical tides in hayield, and I do agree that
if it happens, it's more likely to happen sooner rather
than later. And the Russian alpha, the call from our
side at least is really the demand for credit is exceptional.
(26:30):
You know, the number of people that I speak to
who describe to me the capital they have raised, you know,
the cash balances they have accumulated, is incredible. So there
is a pressure to deploy. Nobody likes the spread. Everybody
gets it up, so everybody's waiting for pullback, and the
pullbacks are not happening often enough where they go deep enough.
(26:52):
And so especially in this seasonal moment where we go
in between holidays, issuing slows down, but the coupons don't,
there is a distant chance we actually would break through
that historical tight spread level in high yield. The reference
might have made for the fifty five and IG sounds
about about.
Speaker 9 (27:11):
Right to me.
Speaker 1 (27:12):
So what's your call on high yield spread?
Speaker 8 (27:14):
So we think we could break closer to two twenty
five As as the bottom of the range, I don't
think we're going to stay there. I think again everybody
agrees that in a longer run it doesn't stack up
against kind of the normal volatility and the normal credit
loss profile. But as a temporary stop, two twenty five
(27:35):
is the potential bottom of the range. Three fifty or
so we think is going to be the top of
the range for next year, and kind of the middle
of it is roughly around three hundred based points.
Speaker 1 (27:44):
Two twenty five on high yield in the first quarter potentially,
I would think, so, yeah, wow, amazing. So it's an
incredibly bullish outlook. You know, I have used the word
complacency on the show. Some people have called it a bubble.
Is that in any way you know, I mean you've
been in it's a long time XP you know, we
between as we remember things like the dot com all
(28:05):
that stuff. Does this in any way set of those
sorts of lambells view.
Speaker 8 (28:10):
So volatility is extremely low, especially in credit. That's what
puzzles me the most personally as I look at all
these markets. You know, there is some equity volatility, rates
volatility has actually been elevated. Credit volatility has been into
the floor for months. So I would not argue for
(28:30):
a moment that there is some degree of complacency, is
a significant degree of complacency in all of this. But
longer term, when you zoom out and you look at history,
this is what history teaches us. Even if you were
unlucky enough to buy us high yield in May of
two thousand and seven, the last time we were in
(28:50):
this at these spread levels, and obviously the global financial
crisis was around the corner, within two years you will
breaking even on that investment and then you're making money
for S and P five hundred. It took five years.
So that is the thing about credit is you can
call it bubble, but at the end, the kind of
(29:12):
the structural advantage, the coupon, the fixed coupon nature, the
contractual nature of this asset class, it's going to bail
you out on the other side. And that's what investors
are gravitating for. That's why I think the demand is
so strong, especially among institutional investors, is they look at
that historical profile, they compare it to rates, they compare
it to equities, and they say, we don't have enough
(29:32):
of it.
Speaker 1 (29:38):
Matt Mish, head of credit strategy at UBS, Welcome to
the credit edge.
Speaker 3 (29:41):
Thank you for having me.
Speaker 1 (29:42):
So we just heard from Investco at this the event
in New York that IG spreads will hit fifty five
basis points next year. And I asked Matt Braille from
Invesco how long that would take, and he said, in
the first quarter. I know you look at you know,
all these markets, and if it does go that far,
that tight, that fast, what does that do to credit?
Speaker 3 (30:02):
Well, I guess, first look, James, we don't think it
goes that far that fast, But we think the market
gets disrupted by the more negative side of President Elect
Trump's second administration, in particular we think tariffs, but the
overall kind of undertones to Matt's point, clients are pricing
(30:23):
a lot of the good news in without actually looking
at both sides of the policy mix. So I guess
the first point is we just simply disagree with that.
We think tariff headlines, in particular size of the tariffs
were looking for twice what you saw in the first administration. Right,
We're coming into a market where spreads are at least
for USIG at twenty year tights right at seventy five.
And so the idea that you will compress down to
(30:44):
fifty five, particularly in a world where we think M
and A has been pent up, there's deregulation. There's a
lot and lot and lot of conversation, including at this conference,
about capital market activity and M and A coming down
the pipe. I just don't see fifty five. But if
you get to fifty five, Matt's going to be happy.
Speaker 1 (31:03):
You also say markets are taking all the good and
not heating enough of the bad of the next administration.
Other than tariffs, what else are we worried about?
Speaker 3 (31:13):
So we generally think that you are going to see
a slowdown in growth as kind of energizer bunny type
US economy is going to be subject to a bit
of slippage in consumption. I also think that you know,
if you look at the market, there's three risks really right.
One is a slow down in growth and particularly profits. Second,
particularly for high yield credit, is going to be unexpected
(31:33):
monetary policy tightening. So that's not something that we anticipate
in the baseline next year, but it is certainly a
risk in the context of some of the potential inflationary
policies were they to come down the pike. So to
be clear, we're expecting sixty percent tariffs on Chinese imports,
but if you got ten percent on all other imports,
(31:54):
that would be very inflationary. The other thing that we're
not expecting but as possible is portation, so actually reversing
the immigration wave that we've seen the last few years,
that also would be inflationary. So unexpected monetary policy tightening,
damage to profits and margins from tariffs, and then the
last point I would just say, a systemic risks. Right,
(32:14):
the market is always sensitive to the issues around credit
risk flare ups, and in particular watching commercial real estate.
We are also watching although we're fairly sang when at
least to start next year, fairly sang when around leverage loans,
but leverage loans in private credit, these areas have a
you know, have seen delinquency or ase quality trends deterirate
(32:38):
or stabilize and deteriorrate, and I still think that they
have to be essentially on investors' radar as we go
through the entirety of twenty twenty five.
Speaker 1 (32:45):
The economic picture that you're painting sounds quite bad for credit,
sounds quite bad for borrows, the weak ones, and yet
no one's really expecting a big increase in default. How
does that work?
Speaker 3 (32:57):
Well, companies have had very favorable capital market conditions if
you look, more so in the US than Europe, but
if you look at the maturity wall, there really isn't
a lot that's there over the next twelve months. I
think also in addition to that, you do have, we
think a federal reserve where partly due to slower growth
(33:17):
and easing inflation, at least in our baseline, interest rates
are coming down. And I think the last point, particularly
in some of the areas like private credit, is that
you've seen flexibility on sponsors and the part of investors
to basically put more money in too kind of extend
the runway. So I think that's the reason why and
ourselves included to have more of a rangebound environment for
(33:38):
default rates next year. We are a little bit more
cautious on Europe, but it's exactly for the reverse of
some of those reasons. We think, in particular, the economic
growth for Europe is going to be a little bit
more sluggish, and we do think the refinancing hurdle is
larger in part because of the lack of supply we've
seen in the last twelve to eighteen months. Out of
European high yield firms.
Speaker 1 (33:59):
And going back to the US markets and how you
more generally, do you expect an increase in net supply,
because that's not really been there for a while.
Speaker 2 (34:07):
We do.
Speaker 3 (34:07):
I mean, we're looking for gross issuance up about ten percent,
and I think net will go up more. Some of
that net, importantly is not just going to be m
and A, so more non refinancing or more shareholder friendly initiatives.
But we also, you know, would point out that supply
from investment create to high yield, so fallen angels, we're
at arguably the lowest level we've had in over ten
(34:30):
years last year, and so we think that number goes up.
We're looking for about fifty billion in fallen angels. That's
not an above average amount, but given the very very
tepid level of ratings transitions that we saw in twenty
twenty four, it is going to be more of an
issue next year.
Speaker 1 (34:48):
So that all sounds quite worrying, quite cautious. And yet
everybody you know that you ask is pretty long the
market in terms of credit, and they want more of it,
and there's not enough, and there's just an endless bid
and there's all this excitement about cash on the sidelines,
all this stuff. If you have a more cautious view,
how do you express that, given the risk assets really
(35:08):
are performing.
Speaker 3 (35:09):
Yeah, well, I think you need to be selective. I
mean to be clear. You know, Matt's view is slightly
different than ours. You know, we assume under Tariff's US
investment gray doesn't go from seventy five to fifty five.
We're looking more for widening as those headlines and as
those announcements are implemented next year, along with slower growth,
a pickup and net supply. We have IG going about
eighty five ninety basis points I yield. We have widening
(35:32):
about thirty or forty base points to three hundred. So
it's not dramatic. We're not looking for a regime shift
in the macro environment, at least with regard to growth.
But we do think that there's going to be some
repricing from you know, fairly tight valuations in terms of
the areas where we think there's value. I'll just highlight three.
One is we do think that the loan market in
the US offers more value. A lot of that is
(35:54):
just traditional credit carry. You've got over one hundred base
points more in spread. You've got an invert yield curve
in the US, so you're all in yield even as
short rates are coming down in the curve normalizes is
pretty attractive. The second thing we would say in high
yield and investment grade is the telecom sector we like,
We think secretly there's a good story there. In many
cases it's a try or a duopoly. You've got a
(36:17):
sector that should benefit from slightly lower tax rates, so
where we have the aggregate rate going down to eighteen
percent in the US. And then the last point is
that is the sector, particularly in high yield, that did
the best in twenty eighteen as we went through tariffs.
So let me leave it there. I think that was
two and not three. But those are some of the
areas that we think clients need to be selective in
(36:39):
position in next year.
Speaker 1 (36:46):
Megan Graper, Global head of Debt Capital Markets with Bartley's
Welcome to the Credit Edge.
Speaker 10 (36:49):
Great to see you, Thanks so much for having me.
Speaker 1 (36:51):
Thank you. And so today we're hearing a very bullish
outlook for credit record low spreads. Potentially, what does that
mean for supply shorty that attracts every issue out there
and you know, there's going to be some M and
A as well, so it's going to be very busy
next year.
Speaker 10 (37:05):
Yeah, you're absolutely right.
Speaker 11 (37:06):
I think it's hard to believe we're to December given
the amount of supply we've already seen front loaded and
accelerated into twenty twenty four. So there were some in
conversations we've been having around your end, expecting that maybe
we might see a bit of a pullback, that maybe
much of it had already been taken off the shelf
in this side of your end, And the reality is
we actually think we're going to see an incremental one
(37:27):
hundred billion relative to the volumes we saw this year,
So one point sixty five trillion of issuance in investment grade.
That feels like a sizable amount, but in the context
of an eight and a half trillion dollar market, it
actually feels manageable, particularly in the context of the demand
backdrop that we're seeing.
Speaker 1 (37:43):
What does that mean on a net basis though, because
net supply, you know, the gross numbers look very high,
but the net has not been there.
Speaker 10 (37:49):
They do, and that's a huge part of the equation.
Speaker 11 (37:51):
So what's driving that uptick in volume is really this
pandemic related issuance rolling off. So there are maturities that
are up a full twenty six sent next year, which
is going to force some REFI. But it also means,
net net, there's money rolling back into investor's hands. So
from a net supply perspective, that is certainly a factor.
Speaker 10 (38:11):
You mentioned M and A. I think that's another piece
of it.
Speaker 11 (38:13):
What's going to mitigate erosion in some of the headline
numbers is I think the re emergence of a willingness
from investors to support issuers that are willing to tolerate
higher degrees of leverage. So we're going to see M
and A pickup, We're going to see keepex activity pick up.
All of that will fuel activity in the new issue
(38:34):
markets next year.
Speaker 1 (38:35):
And do you expect spreads to go even tight? I mean,
one of our guests today, investo Matt Brill, thinks that
spreads will go to fifty five basis points. I asked
him afterwards when he said in the first quarter, that
just really sounds very aggressive to me. Does that seem
feasible to you?
Speaker 11 (38:50):
Well, I think the trajectory is certainly going to be tighter,
and so if you talk to investors, many of them
are really spread agnostic, and what we're seeing is demand
underpinned by all in you. We hosted a round table
just recently and it was hedge funds, asset managers, insurance companies,
and all of them said, you need to be south
of four percent from an all and yield perspective before
(39:12):
their demand starts to wane. And so we've got a
fair ways to go with the index right at four
eighty before that demand erosion starts to materialize.
Speaker 1 (39:20):
That's interesting because what stuck with me this time last year,
and I you know, I'm such a credit geek that
I remember these things. You said at this event that
four and a half was the kind of level that,
you know, beyond which demand might drop off. So it's
gone even lower than that it has.
Speaker 10 (39:33):
I mean, this is the lowest it's been in eighteen months.
Speaker 11 (39:35):
We asked that question at every round table, and it
was pretty consistently for eighteen months four and a half
or higher. And I was surprised as we headed into
the turn of the year that actually that has changed
fairly drastically in the context of Trump two point zero.
Speaker 1 (39:49):
And then on the other side, on the risk side,
you were talking about downgrade risk fallen angels rising substantially.
You mentioned a number of you have forty billion dollars
worth of downgrades out of investment grade into high yield
next year. What's that all about?
Speaker 10 (40:03):
Yeah, I think it's possible.
Speaker 11 (40:04):
Look, I think fundamentals are an incredibly good shape, and
I think forty billion feels like a fairly manageable number.
I mean what we do is sort of look at
the willingness to lever up. What I think is more
likely to be the case here is not broad based downgrades,
but actually a handful of large issuers who could see
a move from cuspy triple B down into too high yield.
(40:25):
There are one hundred and fifty billion of low triple
B names in the index. Currently only about sixty of those,
or sixty billion of those are within one notch of
being moved to junk. So we think it's a contained universe.
But it does mean credit selection is going to be
incrementally more important than twenty twenty five.
Speaker 1 (40:43):
But again, the investors just don't seem to care. The
demand just keeps rising. I'm interested also in your use
of foreign demand, given that the dollar is going to
be so strong as well. Does any of that trail
off because of the dollar?
Speaker 11 (40:55):
Yeah, I mean the breadth and depth of the demand
in the US dollar new issue market in particular has
really been buoyed by the growth of sponsorship from overseas investors.
It used to be that that was really concentrated just
in China or just in Japan. The reality is that
now the Middle East is involved, Europe is involved. So
the sort of the breadth and depth of the market
(41:16):
is much more robust than we've ever seen. So even
if we start to see dispersion in terms of underlying rates,
my concern to some degrees Japanese investors start to see
underlying yields in their home market actually pulling them back
to invest domestically, that in and of itself won't be enough,
I think to weigh on overarching demand technicals in our world.
Speaker 1 (41:39):
Does money market funds? Does that come into this market
at any point? Do you think?
Speaker 3 (41:44):
Well?
Speaker 11 (41:44):
I think there is some extension of maturity extension that
we're seeing from some two A seven investors, But in
some cases that's not precluding them from continuing to participate
in two A seven land. It's actually just redeploying some
cash out the curves underlying yields become compelling. The reality
is with the FED still in play, the front end
(42:04):
is probably most exposed, and so I think that's contained
and maybe more of a second half phenomenon.
Speaker 1 (42:14):
And also a global head of private credit and co
head of Financial Institutions at Moodies, welcome to the credit edge.
Speaker 9 (42:19):
Thank you for having me back.
Speaker 1 (42:21):
So I wanted to start with the consolidation we're seeing
in private credit. You know, a big black Rock deal
just announced. What does that mean for private credit? And
you know, the democratization of the asset class.
Speaker 9 (42:32):
I think it's continuing in that Vein a couple of
years ago, private credit was considered alternative, nesoteric. It doesn't
sound to be the case anymore with the largest liquid
asset manager buys a reputable private credit fund.
Speaker 1 (42:47):
But it makes a lot of sense.
Speaker 9 (42:48):
Look, Blackrock can offer every kind of product and solution
to number of financial institutions, pension funds, insurance companies that
it serves, and it missed this key asset class, particularly
in this scale, and when it's it's a market that's
obviously gonna grow, and we do believe that's gonna continue
growing even with the increased competition and consolidation. For Black
(43:13):
Crook having their stock prices occurrency, it made a lot
of sense to to make the bid and complement their
offerings to their clients.
Speaker 1 (43:21):
Does it mean private credit for everyone?
Speaker 9 (43:23):
Well, private career for everyone is definitely an ambition as
we know, particularly we know a Pollo with that big
I was a part of the strategy. This year was retalization.
Last year was all about a BF and and D banking,
and D year is about private career for everyone or retalization. Look,
there's gonna be regulatory hurdles to be to be cleared,
(43:45):
and we're having a new SEC chair, so we all
gonna for next year, so we're gonna watch what that happens.
But just kind of as a lead example, we know
that ETF that Apollo has proposed has not been approved yet,
So just something to.
Speaker 1 (44:00):
How big does the market get? We've heard mate, you
know once you add acid based finance, you know, forty
fifty trillion dollars, you know, keeps getting bigger every time
you hear about it. How big do you think reasonably?
It could be?
Speaker 9 (44:12):
Actually perfect timing, We just published our asset management Outlook
and we put a number there three to six trillion
dollars over the next five to ten years, And it's
actually very simple math. This is really more of just
conceptual aspect of understanding what the banking may mean. And
(44:32):
again it really matters of where we end up in basil,
both in the US and in Europe particularly. So if
you think about seventeen trillion dollars or loans roughly on
US banks balancing or in eighteen trillion euros on the
European banks balance, so that's roughly thirty trillion plus loans.
So you know, you name, I guess is it going
(44:53):
to be ten percent of that potentially living the system
and in a secuzation for over the next ten years.
I would say three trillion is probably the lawmark. So
that's you know, McKinsey put like our six trillion, So
we are ranges through to six trillion, but it's truly
based on the balance sheet of the banks and the
assets that potentially may may leave to be more capital efficient.
Speaker 1 (45:14):
So when Apollo says forty trillion, that just I think they're.
Speaker 10 (45:17):
Just summing up the europe and the US banks balance.
Speaker 1 (45:20):
That's not really the prophesizon.
Speaker 9 (45:23):
I don't think so well, depends on the horizon. Let
me correct myself, you know, depending on the horizon it.
Speaker 1 (45:27):
Do you think that next year, twenty twenty five, we
will still be talking about private credit as much as
we have been this year.
Speaker 9 (45:34):
Yes, because the competition is going to be fierce and
the banks will probably not gonna have the danger of
Basil in its original proposed form, which means that the
competition not just between the private credit lenders but within
private credit and BSL is going to continue like you
(45:54):
did this year. But think about this year was largely
refised no m and A, and next year, if the
economic projections are sustained of stable and the growth or
unleashing the animal spirits is the new administration wants to
call it, there's going to be m and A, which
means that a lot of these deals will continue going
(46:15):
dual process, so the spreaci of titan and will continue
to tighten apps in some big macroeconomic shock or or
geopolitical issue.
Speaker 1 (46:23):
That all sounds very much like a rational exuberance to me.
Does that not mean a lot more risk in private
credit next year?
Speaker 2 (46:29):
For sure?
Speaker 9 (46:30):
From a risk perspective, competition on terms and pricing is
not good so that's something that definitely willing to be watching.
As you know, earlier this year, we start differentiating our ratings,
particularly the large credit PDCs that we read, and we
certainly have seen divergence of performance and some some of
the PDCs are suffering not only from a non ACRUL perspective,
(46:51):
you know, the level of payment and kind loans. So
I think next year is going to be another year
of differentiation.
Speaker 1 (47:03):
Aidan Cheslin, head of European credit research at Bloomberg Intelligence,
thank you so much for being on the credit edge.
Speaker 4 (47:07):
Great to be here again.
Speaker 1 (47:09):
We're in the US. All we hear about markets right
now is US exceptionalism. All we hear about Europe is
political crisis and ailien economies and all sorts of problems.
But when you look ahead to next year, Aiden, what
are the bright spots in terms of European credit.
Speaker 4 (47:25):
I think there are a few. I think you look
at some of the sectors that have outperformed like this year,
like high yield and corporate hybrids in particular, corporate hybrids
has been one of our pet trades for the last year.
I think I was on this podcast earlier in twenty
twenty four talking about a focus idea that we had
on the asset class where we looked at the relationship
(47:47):
between where hybrid bonds were trading and versus high yield,
and we thought that that relationship between those two asset classes,
which was around one hundred and fifty basis points spread
between the average yield on a non real estate corporate
hybrid bond and the double B senior space. It was
around one hundred and fifty bits that came in as
(48:10):
tight as about forty forty five basis points two or
three weeks ago. It's widened back out to about seventy
eighty basis points. But we think that there's still plenty
left in that trade, given that these two curves traded
flat to one another several times during the last three
to four years. So notwithstanding the amount of carry that
(48:32):
there isn't in that space as well, I definitely say
corporate hybrids is something to continue to look out for
next year.
Speaker 1 (48:39):
What kind of sectors are we talking about when we
talk about hybrids in Europe?
Speaker 4 (48:43):
It's cross all sectors really, you know, a lot of
the beta has come from real estate over the last
couple of years. We exclude those names from the analysis.
That I was just discussing, but certainly real estate had
a better year than I think consensus was really expecting
in twenty twenty four. A lot of the more distressed names,
if you think of the around towns of this world,
(49:04):
did end up tendering for bonds and even calling some
bonds that the market was very nervous about getting called
or not. So the behavior was a lot better than
expected there and that's led to quite a broad based
rally across the corporate hybrid universe. And I think, you know,
we see some more issuance in that space in twenty
(49:26):
twenty five, which will give opportunity for yield for investors
that are experienced in European real estate sector.
Speaker 1 (49:37):
Most people looking at European hybrids would have thought about
bank debt eighty One's that sort of thing. I know
that's not your direct area of focus. But is that
trade played out now? Is it still juc in it?
You think so?
Speaker 4 (49:49):
Our bank's analysts still like the sector. Admittedly probably not
as much spread tightening as we saw in twenty twenty four,
probably potentially a little bit more of a carry trade
in twenty twenty five, but by and large we still
remain constructive on bank capital and subordinative bank capital.
Speaker 1 (50:07):
One name that I'd like to ask you about constantly
is Altice because it's such a huge capital structure that
has been in trouble and I think used the word
Jenga tower when you were on this show earlier this year,
and you know, it's obviously got big ramifications for US
creditors as well. But what's the situation now and where
do we think things are going to go next year?
Speaker 4 (50:27):
Yep, So we're talking about Altis France specifically. We've already
had one round of talks between the company sponsors and
it's a debt group or the group of bondholders that
formed to discuss a potential restructuring, which is didn't seem
(50:49):
that far apart on absolute numbers, but I think there
was a desire to get a better control of the
direction of the company amongst the bondholders, and that was
where a lot of the gap seem to be between
the bondholders and the company in terms of coming up
with a restructuring program that has to you think, reach
some kind of conclusion before some of the twenty twenty
(51:10):
five debt maturities. So I think we'll hear more on
that probably in Q one. And then the other question
around that we get asked is well, what's what's the
next Altis France? Is it Eltis International. There's certainly some
big challenges with Altis International. We've seen a big rise
in in leverage this year there and I think you know,
(51:31):
particularly if you look at how the subordinated bonds of
out East France have been treated, there's some tail risk
in the subordinated bonds of Oltis International. And the other
area that's kind of adjacent to that where there's a
potential for more distress I'd say more medium term rather
than very short term, but is in the satellite space.
(51:51):
So there are two big satellite names in Europe. One
util Sat, which has fallen to single B and is
looking in crely distressed, and then you've got Sees sitting
at triple bus with a lot of work to do
to convince the market that it justifies investment grades spreads.
Speaker 1 (52:10):
There's also a lot of political noise in the big
economies in Europe, and there's also potentially a big impact
from tariffs and all of the stuff that might be
coming from the next US administration. Does any of that
bleed through to your credit work and the outlook that
you have some of these companies.
Speaker 4 (52:25):
Yeah, of course, you know, you can't really ignore it.
I think, you know, we've seen Trump use tariffs as
a bit of a stick before, so I think there's
a very much a wait and see attitude in Europe
really is to you know, I think some of the
widening has been kind of already happened, but there's a
bit of a wait and see attitude now to see
whether that really filters through into tarishs that genuinely damage economies,
(52:50):
or whether it's more of a stick to beat those
economies into spending more on defense or whatever the pet
peeve is. So I think we're kind of in a
wait and see holding pattern on that. For continental Europe.
I think the UK is probably slightly better positioned, but
we'll just have to wait and see on that one.
Speaker 1 (53:06):
Great stuff. Thank you very much for being on the show.
Please do subscribe wherever you get your podcasts. We're on Apple, Spotify,
and all other good providers, including the Bloomberg Terminal at
bpod Go. Give us a review, tell your friends, or
email me directly at Jcrombieight at Bloomberg dot net. I'm
James Cromby. It's been a pleasure having you join us
again next week on the Credit Edge
Hello, and welcome to a very special outlook edition of
the Credit Edge podcast. My name is James Crombie. I'm
a senior editor at Bloomberg. This is a star studed
episode packed full of great interviews with investors and analysts,
recorded during a recent Bloomberg Intelligence event in New York.
All of it is exclusive to the Credit Edge Podcast.
Our guests discuss everything from where bond spreads are going
(00:41):
and how much new debt US companies will raise in
twenty twenty five, to how large private debt markets will
actually get and the main things to worry about the
next year. This being Credit Edge, we also have a
little bit of fun. Check out our conversation with Matt
Brill at Invesco about his annual purchase of two hundred
bottles of bourbon that he's laps a credit themed label
(01:01):
on to inform the strategy ahead. Thanks very much to
everyone for listening. Let's get to it so, Matt Brill,
head of North America Investment Grade Credit at Invesco, Welcome
to the Credit Edge.
Speaker 2 (01:17):
Thanks for having me.
Speaker 1 (01:18):
You just gave a really interesting presentation at the event,
the BI event in New York. You know, lots of
really interesting stuff, lots of great numbers and all that.
I'm mostly interested though, in the bourbon, not just because
I've been here long enough to appreciate it. You know,
obviously in moderation, everything in moderation. But what's that all
about the bourbon?
Speaker 2 (01:37):
Yeah, So at Invesco, we actually had a bunch of
the team was brought in from Louisville, Kentucky, about ten
years ago. So we have a bunch of bourbon experts
on the team, and one of them every year goes
and buys a barrel bourbon in Kentucky. You got to
go try it out.
Speaker 3 (01:52):
You do all these things.
Speaker 2 (01:53):
It's not easy. You can't just walk in there and
say you want to buy one, So you gotta have
some connections. You do that, and then you can get
anywhere between called one hundred and fifty and two twenty
five bottles of bourbon come out of each barrel, and
then we put a label on it, come up the
cool little ig bond market logo and name, and then
we then we then we consume it slowly.
Speaker 1 (02:14):
How does it relate to credit?
Speaker 2 (02:16):
Well, we've had names like by Triple B's, which was
buckled barrel Bourbon. We had curve flattener, which was around
credit curve and also around the time of the COD
with COVID and trying to flatten the COVID curve. What
else did we have we had I can't remember which one,
but they always it's something. It's it's usually a trade
related of what's happening in the market. We have not
(02:37):
had this year's yet, so I can't reveal what it's
going to be. But when it does, I'm sure you'll
like a taste. I'm happy to bring you one.
Speaker 1 (02:43):
We definitely wants to taste. So the other big thing
that jumped out is fifty five basis points spread on
US investment great bonds. You know that's never been seen. Yeah,
why why? Why so tight?
Speaker 4 (02:54):
Yeah?
Speaker 2 (02:55):
So we've looked at this from multiple different ways. So
first off, dollar price as credit quality adjusted, duration adjusted.
You know, the spreads are tight, but they're probably not
as tight as you think that they are. But then
really the big wild car that we think people are
undervaluing is the liquidity that's in available in the market,
mainly due to portfolio trading. So technology, but mainly portfolio
(03:16):
trading has gone from like two percent to fifteen percent
and it's driving liquidity costs or liquidity premium of owning
a not a risk free bond, but a very low
risk bonds in the investment grade market, and we think
it's driving them lower. We think it's going to continue on.
Speaker 1 (03:30):
And there are other things that right, there's better credit quality,
there's what else did you say you have?
Speaker 2 (03:35):
Well, fundamentally, so companies, I think companies prepared for the worst.
They were expecting a recession. So we were told so
many times the last three years we were about to
go in recession that CFOs, treasurers, CEOs, et cetera all said,
I need to have a really good balance sheet for
when we go into this procession. Well, guess what we're
not in recession. The economy is still good, they have
great balance sheets, and then yields overall are very very attractive.
(03:57):
So yields are what are driving we think the demand
for fixed in particularly investment grade, and we don't see
any signs of that letting up. And so unless there's
some sort of fundamental change of the economy or particularly
with IG corporate credit or large corporations, we think you're
going tighter and you we think you're gonna hit fifty
five on the credit indicies when well, I think the
timing and as I stated in the in the in
(04:18):
the speech there is it's not really if, but when.
So to me, the first quarter, you know, is always
always a good or almost always a good period of
time for corporate credit. So I think as you get
through the first quarter, people are going to think, Okay,
maybe that was the wave, but it's going to continue on.
So for me, I think before before the summer, you'll
you'll hit fifty five.
Speaker 1 (04:39):
And the other thing you pulled out in terms of opportunity,
that's utility hybrids. Can you talk a bit about that?
What's that all?
Speaker 2 (04:45):
Yeah, So utility hybrids are are really a booming supply standpoint,
you know, type of opportunity. So there's there's about fifteen
billion issued this year, there's probably gonna be twenty to
twenty five billion issued next year. Well with AI, and
everybody's all excited about AI, Well, how do we invest
in that in the fixed income world? So AI is
driving power demand, data centers and the like, and you
(05:07):
need more power generation from utilities in order to support that.
And so there's going to be a lot of cap
X for utilities over the course of the next several years,
and they need to pay for that, and can they
do it out of by issuing equity or do they
want to issue debt? And if they issue too much debt,
they're going to get downgraded. So what they are choosing
to do is what's called a hybrid. It gives them
fifty percent equity treatment at the radio agencies for ten years,
(05:30):
and it's fifty percent debt treated. So they kind of
getting right in the middle there, and they're generally around
six and a half, some even as much as seven percent.
They're usually investment grade rated, they're regulated utilities. They are
all the ones that you already know they're subordinate, So
there's some risk involved there, but overall, because the demand
is based on this AI growth, it's not really economically sensitive.
(05:55):
I don't really feel like so the demand is going
to be there, the generation needs to be done, and
we think it's a great upportunity to get six and
a half plus percent yields.
Speaker 1 (06:02):
Going back to the spreads point, does that record low
spread not attract every issue? You know, given that they
also be wanting to fund extra m and a next
year potenty, does that blot the monkey with supply.
Speaker 2 (06:12):
Yeah, so that is a concern of mine, for sure.
I would be very concerned. I'd start getting concerned as
soon as we start seeing large m and A that
is debt funded, We're going to see more MNA. It's
gonna be less regulation, more deregulation.
Speaker 1 (06:24):
Next year.
Speaker 2 (06:24):
If we start seeing large m and A deals that
are debt funded rather than equity, at least a mix
of equity being in there, that'll concern me. But to
date we haven't seen it. But you got to remember
it's about yield. So at the end of the day,
if you're a corporation, yes, your spreads are not really
you know, very punitive, but you're all in. Yield is
still punitive to be borrowing at five plus percent. So
(06:45):
I think most corporations aren't dying to to issue more
debt to to to do an m and A acquisition,
and they'd rather have a mix of equities. What are
at all time high, So I'd say equities are a
little bit cheaper source using rather than debt at this point.
Speaker 1 (06:58):
So the golden age for bunds, as you put it
on our show early this year, that still continues, and
nothing else to worry about.
Speaker 2 (07:05):
There's always things to worry about, but I do think
fundamentally speaking, you're on a really good path. The economy
looks really good, balance sheets are great, yields are This
is a year that I think a lot of people
thought they would have made more money in bonds, and
for second there was it was a little bit you know,
nerve racking. But at the end of the day, you're
probably still going to get four of six percent and
most investment great bond funds on the year, and you're
(07:26):
setting up for another really good year next year.
Speaker 1 (07:33):
So, Kathy Jones, chief fixed Income Strategists at the shwelve
percent of for Financial Research. You've noted that there is
risk out there, there's a lot of volatility, but yields
are still high, and as you've written, volatility can translate
into opportunities. So what are those big opportunities in credit
for next year?
Speaker 5 (07:51):
Yeah, we think that you can look at intermediate term
you know, shorter duration or intermediate term investment great credit
and still get pretty decent yields. If you want to
take a little bit more risk, take the duration risk.
The yield curve is steepened quite a bit, so you
do get rewarded for taking that risk. We're not really
(08:12):
crazy about a lot of duration risk at this stage
of the game. But if you have a view that
you're really a buy and hold investor, or if you
have a view that rates have more room to come down,
then that is an opportunity relative to where else you
can go in fixed income. We also looked at investment
grade floaters. The current yields at the short end are
(08:34):
higher than treasuries, so you get some you know, very
short duration, get some attractive yield, and if rates do
go up, you will ride that wave up.
Speaker 1 (08:46):
But spreads still up very very tight. Indeed, how do
you fact that into your analysis?
Speaker 5 (08:51):
Yeah, that's the tough part. So we look at it
and kind of the short version is fundamentals are good,
but valuations are really stretched. So if we had a
view that we were headed towards a downturn in the
economy or some sort of credit event, we would be
more concerned about spreads. That we do think there's room
(09:11):
for spread widening, but in investment grade it shouldn't be
something that really detracts seriously from your total return. If
I were in really low credit quality, I'd be more
concerned about it. But in investment grade you can probably
ride out some of the ups and downs and still
get a pretty decent return.
Speaker 1 (09:33):
In the low end of the credit spectrum, I mean
I'm talking the really risky stuff, you know, triple C
rated debt. You have really been rewarded this year for
taking risk. You know, you're fifteen percent if you look
at the global Triple C index, which is quite impressive.
You can't really fight this huge pile of cash. There
isn't enough to buy. There's a you know, very bullish
feeling about next year in terms of the new administration.
(09:54):
What do you do in that situation? How do you
balance the obviously the fundamental concerns against the very strong technicals.
Speaker 5 (10:00):
Yeah, what we're doing is shying away from going too
far down in credit quality, and we may miss, as
we did for the second half of this year, miss
a lot of spread tightening from here, but really, how
much more will they tighten? Even on good news? A
lot of good news is priced in, and I think
the worst case scenario is really a stagflation scenario that
(10:21):
would really be a negative and obviously those triple cs
would get hurt. Not that you maybe can't get some
decent returns again this year, if we continue to have
pretty easy financing conditions, if the economy does do well,
if that risk appetite stays really high, I could make
the case, but I think the risk reward just isn't
(10:44):
there for somebody who is not a really specialized investor
who knows that space.
Speaker 1 (10:57):
Megan Rolbson, head of US Credit Strategy at BNP By,
Welcome to the Credit Edge. Thanks for having me, Thanks
so much for being here. So you are concerned about
the risks of a FED pause, about inflation, about rates
volatility for next year, tell me how does that affect credit?
Speaker 6 (11:12):
So heading into next year, we're still We're still constructive.
We do think valuations are tight, but you still have
this very strong demand from from the yield buyer, and
so we are watching. We are calling for some modest
spread widening, and we do think that there's risks percolating
in the system related to policy, but it is in
(11:35):
our view too early to position for those. So we
think that yields are so high investors are really going
to benefit more by holding credit into first quarter. We
can see what Trump ends up doing before really adjusting
portfolios or turning negative on credit?
Speaker 1 (11:51):
What does that mean for spreadso modest widening, I mean,
how much are we talking about?
Speaker 6 (11:54):
Yeah, so in IG or in hi yield we're calling
for a spread target of three hundred basis point, so
it's about a fifty basis point widening, and then in
IG we're calling for about ten basis points widening, so
some decompression. There are some underperformance of high yield relative
to IG.
Speaker 1 (12:11):
Okay, and do you expect a lot more supply next
year on a net basis, we're talking about a lot
more M and A potentially.
Speaker 6 (12:17):
So BNP has an out of a little bit of
an out of consensus view, and that we're expecting the
tenure to drift a bit higher, so to a level
around four sixty five. I do think that there will
be this impulsive M and A with deregulation, but given
the rates, the higher rates level, I think that's going
to keep a lid on really seeing too much of
an increase. So we do build in about a fifteen
(12:39):
percent increase in net supply next year, but this is
from very low levels, so I think it could be
well absorbed into the market.
Speaker 1 (12:47):
Okay, on the rates side, if rates do stay up
that high, and you know everyone's talking about higher for longer.
One of our guests used the words normal for longer.
So it depends on how you look at it. But
doesn't that put the weak borrows in a very tough spot?
Speaker 6 (13:02):
So we have taken some it does. I think it
will be a challenge for Triple c's. We've had an
overweight to Triple C's following the US election and we've
just rotated out of that. Trade has performed really well.
But heading into next year, if you do see this
drift higher end rates or a FED pause, I think
that part of the market is especially especially vulnerable. So
for us, we do like still taking credit risk. We
(13:23):
would do so in the single bee market, so I
think especially loans. Single bee loans look quite attractive on
a carry basis.
Speaker 1 (13:31):
Okay, And it's a more deffault potentially on the Triple
c's or more liability management, that kind of thing.
Speaker 6 (13:35):
We're calling for some I think it'll be very liability management,
very sector specific, so I think in media in particular,
we're expecting a few of those. We do think overall defaults, though,
will we'll start to move lower. So we have two
and a half percent for high yield, and we think
that loans will move down to four percent, so still
a little bit elevated, just given that our call for
(13:56):
rates to be a little bit higher than most people expect.
Speaker 1 (14:00):
You like services, though, you like cruise lines, what's the
story there?
Speaker 6 (14:04):
So cruise lines have had you know, they're booked well
into next year. So I think the fundamentals forward looking
look attractive. The balance sheets have been cleaned up, We've
seen a lot of debt paydowns, and then if you
look at ratings and ratings forecasts, there are some solid
rising star candidates for next year. So I think in
terms of credit momentum, you could see ratings improve into
(14:28):
twenty twenty five.
Speaker 1 (14:30):
What I mean we're seeing is there anything else that's
giving you the edge in terms of credit right now?
Speaker 6 (14:34):
So we like we like avoiding building products in high yield.
I think this is a key call, and it's an
interesting one because there's a lot of converging factors. Higher rates,
higher mortgage rates will weigh on building products as people
struggle with higher mortgage rates. There's also an immigration angle,
so you have construction relying more on undocumented labor. You
(14:56):
could see some some vulnerabilities there depending on on what
President Electromp decides to do. And then there's also a
little bit of a terriff exposure as well from input
costs on building products. So that's a key area to
underweight and to hedge some of the policy risks for
next year.
Speaker 1 (15:18):
When he sees Our global head of Strategy, Credit Sides,
Welcome to the Credit Edge.
Speaker 7 (15:22):
Thank you so much for having me.
Speaker 1 (15:24):
You have just mentioned on a panel here at THEBI
event status woe. What does that mean? Can you unpack
that for us? Please?
Speaker 7 (15:31):
Well, it could mean a lot of things, right. It
could be woe in a good way, as we have
a lot of expectations around deregulatory and continued fundamental progress.
Or it could be whoe as in what is happening
here with a new regime coming in and a number
of policies that may not be quite as positive as
(15:52):
perhaps the market is expecting.
Speaker 1 (15:54):
Spreads are too tight according to your comments today, how
wide should they be?
Speaker 7 (16:00):
So we think that a recalibration of spreads would be appropriate.
Our year end twenty twenty five target for high yield
spreads is three hundred and fifty basis points, so call
it seventy five to one hundred basis points wider than
where we are currently on expectations that forward, fundamental expectations
start to feel a little bit weaker than where we've been,
(16:20):
and perhaps the technical bid is not going to be
there as much to support valuations.
Speaker 1 (16:27):
What happens to that technical bid though, I think everyone
is so convinced that there's always cash on the sidelines,
that there's barn demand, that there's cash just being recycled
from coople on payments and maturity everything else. What's the
sort of you know, warning sign view on the on
the demand side.
Speaker 7 (16:40):
Well, the thing is there's always liquidity in the system
until there's not, and that switch can flip very quickly.
Right now, the liquidity and those strong technicals are very
much predicated on continued FED easing expectations and economic momentum.
If we see one of those two things change. So
if we expect that the FED is maybe not going
(17:01):
to be cut in quite as aggressively as the market
is currently pricing in, or perhaps they'll have to cut
even more aggressively because there is some sort of fundamental
issue of broad based economic deceleration, then those technicals really
can shift very quickly.
Speaker 1 (17:16):
You've also mentioned massive supply out of the gate, which
makes sense given how tight spreads are. Inovation is going
to want to take advantage how much supply and what's
it going to be for.
Speaker 7 (17:24):
So we think that in the high yield market it's
still going to be mostly refinancing, and our expectation is
for about three hundred billion of gross supply, which would
actually be a little bit of a downstep in twenty
twenty five compared to twenty twenty four levels, and that's
because we do expect spread volatility is going to pick
up in the broadly syndicated loan market. I think this
(17:45):
is where we could see the animal spirits really start
to work their way through the system again with more
m and a more LBOs. And importantly, we've already seen
dividend deals really increase in the loan market in twenty
twenty four. I don't see what stops that in the new.
Speaker 1 (18:00):
Doesn't that just mean the whole load of more risk.
Speaker 7 (18:03):
It does feel like that, And even before the outcome
of the election, we had been expecting a shift from
those balance sheet defense strategies to consolidation, those middle innings
of the credit cycle, which are consistent with things like
intentional releveraging, and that really brings execution risk to the
front and center.
Speaker 1 (18:23):
Where's the best value right now? Is it duration? Is
it credit risk? What do you like?
Speaker 7 (18:27):
So right now we do not love duration risk. We
actually re upgraded the broadly syndicated loan market to a
neutral weight allocation versus US and investment grade and high yield,
where we are underweight because we do think that there
will be a recalibration of FED expectations with fewer cuts
getting priced in and perhaps even rate hikes coming back
(18:48):
into the equation in sometime in twenty twenty five or
early twenty twenty six. So we like shorter duration, We
like floating rate. We don't want to get two over
our skis, and credit risk as borrowing costs are going
to be challenging if rates stay a little bit more elevated.
Speaker 1 (19:03):
But credit risk has really rewarded the brave this year.
Triple c's are up fifteen percent in terms of you know,
the global index we track. You sound cautious, so I mean,
but on the other time, you can't refight this power
of the market, all this cash. You know that maybe
you know you risk underperformance if you do, so, how
do you balance those?
Speaker 7 (19:22):
Yeah, this is a tricky one, and I feel like
we've been on the right side of the trade. We
came into twenty twenty three positive on credit risk. We
doubled down at the beginning of twenty twenty four, and
we've been notching down our risk tolerance as spreads have
hit levels that we think are not as sustainable. So
we realize there is that kind of tide that a
lot of people are fighting against where perhaps they were
(19:44):
a little bit overcashed at the beginning of this year
and under risked, And I fully empathize with the portfolio
managers who have been dealing with that. But we do
think having a bit more of an up and quality
bias makes some sense.
Speaker 1 (19:57):
You do have a global perspective, and I'm interested in
your view other regions. Everyone is so loaded up on
US assets and the dollar and all that stuff, but
surely there's value in other places Europe, Asia, where else.
Speaker 7 (20:07):
Yeah, so we are sticking with a neutral allocation to
euro high yield versus underweight US. We see a bit
more spread value there. Alignment to domestic issuers can help
mitigate some of the things like tariff risk, and we
think that the risk reward there can be a little
bit more attractive as valuations have lagged. We also like
EMIG sovereigns. That's another place where you're getting a little
(20:31):
bit more yield and spread pickup than say the US
investment grade corporate market. And we see some potential for
continued relative performance.
Speaker 1 (20:39):
And is there one big risk for next year that
really worries you.
Speaker 7 (20:43):
There are so many risks that worry me for next year.
And I think that the big takeaway is there's a
lot of positivity being baked into market expectations and current valuations,
and that leads to complacency, and being complacent in an
environment that is rapidly changing can oftentimes be very detrimental
to portfolio performance.
Speaker 1 (21:09):
Ohleg Melentia, I've head of high your Credit strategy at
Bank of America. Welcome to Credit Edge. Thank you, James,
so earlier on the Credit Edge earlier this year, I
should say you made some great points about the riskiest
end of credit markets. We talked about US companies with
about two hundred billion dollars of debt, roughly ten percent
of the high bond market that probably won't survive the
(21:32):
current period of elevated interest rates unscathed. Since then, you know,
the outlook for rates has probably become even more challenging
for some of those borrowers. What's the situation and what
should we be looking for next year?
Speaker 8 (21:45):
So I think the most important development in the last
few months has been the completion of several liability management
exercises among those issuers. Some of the largest capital structures
have undergone those enemies, and if anycent that provided a
little bit of a relief in the market that those
(22:07):
issues are at least temporarily behind us. We don't know
that those are permanent solutions are not historically elements working
about sixty percent of cases, they don't work in the
other forty So time will tell, But in immediate sense,
it's it was definitely a relift to the market.
Speaker 1 (22:25):
But there's still this worry about this what you call
the bossom ten percent. What specifically should we be looking
for there? I mean, is there is there going to
be a big increase in devotes, There is there going
to be a lot more stress, a lot more bankruptcies.
What do we expect in that ten percent?
Speaker 8 (22:39):
So that ten percent, in our mind has not really
changed that much just in terms of over looking situation,
because look, leverage is still there. You know on average
that deactyle is lovered about eleven times. Interest coverage in
many cases is close to one. Sometimes they don't even
(23:01):
make enough money to pay the coupon? Did that to
enterprise value another measure we look at closely eighties percent,
So over time, unless we do see interest rates coming
down substantially, we do think this is an ongoing lemy material.
Speaker 1 (23:18):
Yeah, so it's going to be more liability management exchanges,
which for our listeners who don't follow this close to
it basically means a loss of haircut for investors, right,
they're taking a hit.
Speaker 8 (23:26):
So what it means is the last stop, hopefully the
last stop, but eight stop before bankruptcy. Right, bankruptcy process
is expensive, the recovery is are low. Everyone involved in
that situation prefers not to be in a bankruptcy court,
so they trying to solve those issues out of court.
(23:49):
And so in vast majority of cases, liability management exercise
is where both investors and issuers and sponsors go first. Again,
the question is the bankruptcy allows for a deeper structuring,
deep put that rite offs coupon extensions, et cetera, liability
management exercise. You have to reach that consensus essentially outside
(24:12):
of the courtroom, which which makes it more challenging. But
then recoveries are better, and the expectation is that maybe
that small change in cap structure is what's needed to
make it work.
Speaker 1 (24:22):
And is it fair to say that this ten percent
of the market is bottom you know, the worst quality
parts of credit. We kind of know where it is,
We know what it is by now, and we just
avoid it and we carry on and everything else is
great for the rest of credit. I mean, it seems
like everyone's kind of isolated that and there's no contagion,
there's no spillover, there's no kind of even sentiment hit
for other investors across credit.
Speaker 8 (24:45):
Yeah, look, it's going to take a very substantial deterioration
in kind of broader micro picture for any substantial credit
loss beyond that bottom descile. Like just realistically speaking, we
have to go back to the global financial crisis to
see default rates you know, north of ten percent, and
(25:06):
that that was an obvious calamity, right, so we we
haven't experienced tennis and like that since then, we haven't
experienced tennis and like that for decades before that, So
I would you know, put that at black swan event.
We can't forecast them, but can just hope they don't
repeat themselves. You know, in a garden variety of recession,
even if we get into one at some point our
(25:28):
enforeseeable future, we were pretty comfortable in saying default rates
should stay well inside of ten percent.
Speaker 1 (25:34):
Are you know it's speaking today? Matt Breil from Invesco
made really kind of extremely pulish call on IG spreads.
I know you look at Yoda, I'm going to ask
you about anyway, fifty five basis points never been seen before.
And I asked him after this, how long is it
going to take? He said, by the first quarter, which
has to you know, if it happens. I'm not saying
that you think it does, but if it does, then
it has to reprice credit across the board. It means,
(25:56):
you know, everything just becomes dramatically size of First well,
I mean, do you think that that's at all a
feasible outcome? And secondly, what would it do to high
yield it did happen.
Speaker 8 (26:07):
I think there is a decent chance it happens, So
we have a similar call on the high yield side.
We're basically saying there is a decent chance we break
through historical tides in hayield, and I do agree that
if it happens, it's more likely to happen sooner rather
than later. And the Russian alpha, the call from our
side at least is really the demand for credit is exceptional.
(26:30):
You know, the number of people that I speak to
who describe to me the capital they have raised, you know,
the cash balances they have accumulated, is incredible. So there
is a pressure to deploy. Nobody likes the spread. Everybody
gets it up, so everybody's waiting for pullback, and the
pullbacks are not happening often enough where they go deep enough.
(26:52):
And so especially in this seasonal moment where we go
in between holidays, issuing slows down, but the coupons don't,
there is a distant chance we actually would break through
that historical tight spread level in high yield. The reference
might have made for the fifty five and IG sounds
about about.
Speaker 9 (27:11):
Right to me.
Speaker 1 (27:12):
So what's your call on high yield spread?
Speaker 8 (27:14):
So we think we could break closer to two twenty
five As as the bottom of the range, I don't
think we're going to stay there. I think again everybody
agrees that in a longer run it doesn't stack up
against kind of the normal volatility and the normal credit
loss profile. But as a temporary stop, two twenty five
(27:35):
is the potential bottom of the range. Three fifty or
so we think is going to be the top of
the range for next year, and kind of the middle
of it is roughly around three hundred based points.
Speaker 1 (27:44):
Two twenty five on high yield in the first quarter potentially,
I would think, so, yeah, wow, amazing. So it's an
incredibly bullish outlook. You know, I have used the word
complacency on the show. Some people have called it a bubble.
Is that in any way you know, I mean you've
been in it's a long time XP you know, we
between as we remember things like the dot com all
(28:05):
that stuff. Does this in any way set of those
sorts of lambells view.
Speaker 8 (28:10):
So volatility is extremely low, especially in credit. That's what
puzzles me the most personally as I look at all
these markets. You know, there is some equity volatility, rates
volatility has actually been elevated. Credit volatility has been into
the floor for months. So I would not argue for
(28:30):
a moment that there is some degree of complacency, is
a significant degree of complacency in all of this. But
longer term, when you zoom out and you look at history,
this is what history teaches us. Even if you were
unlucky enough to buy us high yield in May of
two thousand and seven, the last time we were in
(28:50):
this at these spread levels, and obviously the global financial
crisis was around the corner, within two years you will
breaking even on that investment and then you're making money
for S and P five hundred. It took five years.
So that is the thing about credit is you can
call it bubble, but at the end, the kind of
(29:12):
the structural advantage, the coupon, the fixed coupon nature, the
contractual nature of this asset class, it's going to bail
you out on the other side. And that's what investors
are gravitating for. That's why I think the demand is
so strong, especially among institutional investors, is they look at
that historical profile, they compare it to rates, they compare
it to equities, and they say, we don't have enough
(29:32):
of it.
Speaker 1 (29:38):
Matt Mish, head of credit strategy at UBS, Welcome to
the credit edge.
Speaker 3 (29:41):
Thank you for having me.
Speaker 1 (29:42):
So we just heard from Investco at this the event
in New York that IG spreads will hit fifty five
basis points next year. And I asked Matt Braille from
Invesco how long that would take, and he said, in
the first quarter. I know you look at you know,
all these markets, and if it does go that far,
that tight, that fast, what does that do to credit?
Speaker 3 (30:02):
Well, I guess, first look, James, we don't think it
goes that far that fast, But we think the market
gets disrupted by the more negative side of President Elect
Trump's second administration, in particular we think tariffs, but the
overall kind of undertones to Matt's point, clients are pricing
(30:23):
a lot of the good news in without actually looking
at both sides of the policy mix. So I guess
the first point is we just simply disagree with that.
We think tariff headlines, in particular size of the tariffs
were looking for twice what you saw in the first administration. Right,
We're coming into a market where spreads are at least
for USIG at twenty year tights right at seventy five.
And so the idea that you will compress down to
(30:44):
fifty five, particularly in a world where we think M
and A has been pent up, there's deregulation. There's a
lot and lot and lot of conversation, including at this conference,
about capital market activity and M and A coming down
the pipe. I just don't see fifty five. But if
you get to fifty five, Matt's going to be happy.
Speaker 1 (31:03):
You also say markets are taking all the good and
not heating enough of the bad of the next administration.
Other than tariffs, what else are we worried about?
Speaker 3 (31:13):
So we generally think that you are going to see
a slowdown in growth as kind of energizer bunny type
US economy is going to be subject to a bit
of slippage in consumption. I also think that you know,
if you look at the market, there's three risks really right.
One is a slow down in growth and particularly profits. Second,
particularly for high yield credit, is going to be unexpected
(31:33):
monetary policy tightening. So that's not something that we anticipate
in the baseline next year, but it is certainly a
risk in the context of some of the potential inflationary
policies were they to come down the pike. So to
be clear, we're expecting sixty percent tariffs on Chinese imports,
but if you got ten percent on all other imports,
(31:54):
that would be very inflationary. The other thing that we're
not expecting but as possible is portation, so actually reversing
the immigration wave that we've seen the last few years,
that also would be inflationary. So unexpected monetary policy tightening,
damage to profits and margins from tariffs, and then the
last point I would just say, a systemic risks. Right,
(32:14):
the market is always sensitive to the issues around credit
risk flare ups, and in particular watching commercial real estate.
We are also watching although we're fairly sang when at
least to start next year, fairly sang when around leverage loans,
but leverage loans in private credit, these areas have a
you know, have seen delinquency or ase quality trends deterirate
(32:38):
or stabilize and deteriorrate, and I still think that they
have to be essentially on investors' radar as we go
through the entirety of twenty twenty five.
Speaker 1 (32:45):
The economic picture that you're painting sounds quite bad for credit,
sounds quite bad for borrows, the weak ones, and yet
no one's really expecting a big increase in default. How
does that work?
Speaker 3 (32:57):
Well, companies have had very favorable capital market conditions if
you look, more so in the US than Europe, but
if you look at the maturity wall, there really isn't
a lot that's there over the next twelve months. I
think also in addition to that, you do have, we
think a federal reserve where partly due to slower growth
(33:17):
and easing inflation, at least in our baseline, interest rates
are coming down. And I think the last point, particularly
in some of the areas like private credit, is that
you've seen flexibility on sponsors and the part of investors
to basically put more money in too kind of extend
the runway. So I think that's the reason why and
ourselves included to have more of a rangebound environment for
(33:38):
default rates next year. We are a little bit more
cautious on Europe, but it's exactly for the reverse of
some of those reasons. We think, in particular, the economic
growth for Europe is going to be a little bit
more sluggish, and we do think the refinancing hurdle is
larger in part because of the lack of supply we've
seen in the last twelve to eighteen months. Out of
European high yield firms.
Speaker 1 (33:59):
And going back to the US markets and how you
more generally, do you expect an increase in net supply,
because that's not really been there for a while.
Speaker 2 (34:07):
We do.
Speaker 3 (34:07):
I mean, we're looking for gross issuance up about ten percent,
and I think net will go up more. Some of
that net, importantly is not just going to be m
and A, so more non refinancing or more shareholder friendly initiatives.
But we also, you know, would point out that supply
from investment create to high yield, so fallen angels, we're
at arguably the lowest level we've had in over ten
(34:30):
years last year, and so we think that number goes up.
We're looking for about fifty billion in fallen angels. That's
not an above average amount, but given the very very
tepid level of ratings transitions that we saw in twenty
twenty four, it is going to be more of an
issue next year.
Speaker 1 (34:48):
So that all sounds quite worrying, quite cautious. And yet
everybody you know that you ask is pretty long the
market in terms of credit, and they want more of it,
and there's not enough, and there's just an endless bid
and there's all this excitement about cash on the sidelines,
all this stuff. If you have a more cautious view,
how do you express that, given the risk assets really
(35:08):
are performing.
Speaker 3 (35:09):
Yeah, well, I think you need to be selective. I
mean to be clear. You know, Matt's view is slightly
different than ours. You know, we assume under Tariff's US
investment gray doesn't go from seventy five to fifty five.
We're looking more for widening as those headlines and as
those announcements are implemented next year, along with slower growth,
a pickup and net supply. We have IG going about
eighty five ninety basis points I yield. We have widening
(35:32):
about thirty or forty base points to three hundred. So
it's not dramatic. We're not looking for a regime shift
in the macro environment, at least with regard to growth.
But we do think that there's going to be some
repricing from you know, fairly tight valuations in terms of
the areas where we think there's value. I'll just highlight three.
One is we do think that the loan market in
the US offers more value. A lot of that is
(35:54):
just traditional credit carry. You've got over one hundred base
points more in spread. You've got an invert yield curve
in the US, so you're all in yield even as
short rates are coming down in the curve normalizes is
pretty attractive. The second thing we would say in high
yield and investment grade is the telecom sector we like,
We think secretly there's a good story there. In many
cases it's a try or a duopoly. You've got a
(36:17):
sector that should benefit from slightly lower tax rates, so
where we have the aggregate rate going down to eighteen
percent in the US. And then the last point is
that is the sector, particularly in high yield, that did
the best in twenty eighteen as we went through tariffs.
So let me leave it there. I think that was
two and not three. But those are some of the
areas that we think clients need to be selective in
(36:39):
position in next year.
Speaker 1 (36:46):
Megan Graper, Global head of Debt Capital Markets with Bartley's
Welcome to the Credit Edge.
Speaker 10 (36:49):
Great to see you, Thanks so much for having me.
Speaker 1 (36:51):
Thank you. And so today we're hearing a very bullish
outlook for credit record low spreads. Potentially, what does that
mean for supply shorty that attracts every issue out there
and you know, there's going to be some M and
A as well, so it's going to be very busy
next year.
Speaker 10 (37:05):
Yeah, you're absolutely right.
Speaker 11 (37:06):
I think it's hard to believe we're to December given
the amount of supply we've already seen front loaded and
accelerated into twenty twenty four. So there were some in
conversations we've been having around your end, expecting that maybe
we might see a bit of a pullback, that maybe
much of it had already been taken off the shelf
in this side of your end, And the reality is
we actually think we're going to see an incremental one
(37:27):
hundred billion relative to the volumes we saw this year,
So one point sixty five trillion of issuance in investment grade.
That feels like a sizable amount, but in the context
of an eight and a half trillion dollar market, it
actually feels manageable, particularly in the context of the demand
backdrop that we're seeing.
Speaker 1 (37:43):
What does that mean on a net basis though, because
net supply, you know, the gross numbers look very high,
but the net has not been there.
Speaker 10 (37:49):
They do, and that's a huge part of the equation.
Speaker 11 (37:51):
So what's driving that uptick in volume is really this
pandemic related issuance rolling off. So there are maturities that
are up a full twenty six sent next year, which
is going to force some REFI. But it also means,
net net, there's money rolling back into investor's hands. So
from a net supply perspective, that is certainly a factor.
Speaker 10 (38:11):
You mentioned M and A. I think that's another piece
of it.
Speaker 11 (38:13):
What's going to mitigate erosion in some of the headline
numbers is I think the re emergence of a willingness
from investors to support issuers that are willing to tolerate
higher degrees of leverage. So we're going to see M
and A pickup, We're going to see keepex activity pick up.
All of that will fuel activity in the new issue
(38:34):
markets next year.
Speaker 1 (38:35):
And do you expect spreads to go even tight? I mean,
one of our guests today, investo Matt Brill, thinks that
spreads will go to fifty five basis points. I asked
him afterwards when he said in the first quarter, that
just really sounds very aggressive to me. Does that seem
feasible to you?
Speaker 11 (38:50):
Well, I think the trajectory is certainly going to be tighter,
and so if you talk to investors, many of them
are really spread agnostic, and what we're seeing is demand
underpinned by all in you. We hosted a round table
just recently and it was hedge funds, asset managers, insurance companies,
and all of them said, you need to be south
of four percent from an all and yield perspective before
(39:12):
their demand starts to wane. And so we've got a
fair ways to go with the index right at four
eighty before that demand erosion starts to materialize.
Speaker 1 (39:20):
That's interesting because what stuck with me this time last year,
and I you know, I'm such a credit geek that
I remember these things. You said at this event that
four and a half was the kind of level that,
you know, beyond which demand might drop off. So it's
gone even lower than that it has.
Speaker 10 (39:33):
I mean, this is the lowest it's been in eighteen months.
Speaker 11 (39:35):
We asked that question at every round table, and it
was pretty consistently for eighteen months four and a half
or higher. And I was surprised as we headed into
the turn of the year that actually that has changed
fairly drastically in the context of Trump two point zero.
Speaker 1 (39:49):
And then on the other side, on the risk side,
you were talking about downgrade risk fallen angels rising substantially.
You mentioned a number of you have forty billion dollars
worth of downgrades out of investment grade into high yield
next year. What's that all about?
Speaker 10 (40:03):
Yeah, I think it's possible.
Speaker 11 (40:04):
Look, I think fundamentals are an incredibly good shape, and
I think forty billion feels like a fairly manageable number.
I mean what we do is sort of look at
the willingness to lever up. What I think is more
likely to be the case here is not broad based downgrades,
but actually a handful of large issuers who could see
a move from cuspy triple B down into too high yield.
(40:25):
There are one hundred and fifty billion of low triple
B names in the index. Currently only about sixty of those,
or sixty billion of those are within one notch of
being moved to junk. So we think it's a contained universe.
But it does mean credit selection is going to be
incrementally more important than twenty twenty five.
Speaker 1 (40:43):
But again, the investors just don't seem to care. The
demand just keeps rising. I'm interested also in your use
of foreign demand, given that the dollar is going to
be so strong as well. Does any of that trail
off because of the dollar?
Speaker 11 (40:55):
Yeah, I mean the breadth and depth of the demand
in the US dollar new issue market in particular has
really been buoyed by the growth of sponsorship from overseas investors.
It used to be that that was really concentrated just
in China or just in Japan. The reality is that
now the Middle East is involved, Europe is involved. So
the sort of the breadth and depth of the market
(41:16):
is much more robust than we've ever seen. So even
if we start to see dispersion in terms of underlying rates,
my concern to some degrees Japanese investors start to see
underlying yields in their home market actually pulling them back
to invest domestically, that in and of itself won't be enough,
I think to weigh on overarching demand technicals in our world.
Speaker 1 (41:39):
Does money market funds? Does that come into this market
at any point? Do you think?
Speaker 3 (41:44):
Well?
Speaker 11 (41:44):
I think there is some extension of maturity extension that
we're seeing from some two A seven investors, But in
some cases that's not precluding them from continuing to participate
in two A seven land. It's actually just redeploying some
cash out the curves underlying yields become compelling. The reality
is with the FED still in play, the front end
(42:04):
is probably most exposed, and so I think that's contained
and maybe more of a second half phenomenon.
Speaker 1 (42:14):
And also a global head of private credit and co
head of Financial Institutions at Moodies, welcome to the credit edge.
Speaker 9 (42:19):
Thank you for having me back.
Speaker 1 (42:21):
So I wanted to start with the consolidation we're seeing
in private credit. You know, a big black Rock deal
just announced. What does that mean for private credit? And
you know, the democratization of the asset class.
Speaker 9 (42:32):
I think it's continuing in that Vein a couple of
years ago, private credit was considered alternative, nesoteric. It doesn't
sound to be the case anymore with the largest liquid
asset manager buys a reputable private credit fund.
Speaker 1 (42:47):
But it makes a lot of sense.
Speaker 9 (42:48):
Look, Blackrock can offer every kind of product and solution
to number of financial institutions, pension funds, insurance companies that
it serves, and it missed this key asset class, particularly
in this scale, and when it's it's a market that's
obviously gonna grow, and we do believe that's gonna continue
growing even with the increased competition and consolidation. For Black
(43:13):
Crook having their stock prices occurrency, it made a lot
of sense to to make the bid and complement their
offerings to their clients.
Speaker 1 (43:21):
Does it mean private credit for everyone?
Speaker 9 (43:23):
Well, private career for everyone is definitely an ambition as
we know, particularly we know a Pollo with that big
I was a part of the strategy. This year was retalization.
Last year was all about a BF and and D banking,
and D year is about private career for everyone or retalization. Look,
there's gonna be regulatory hurdles to be to be cleared,
(43:45):
and we're having a new SEC chair, so we all
gonna for next year, so we're gonna watch what that happens.
But just kind of as a lead example, we know
that ETF that Apollo has proposed has not been approved yet,
So just something to.
Speaker 1 (44:00):
How big does the market get? We've heard mate, you
know once you add acid based finance, you know, forty
fifty trillion dollars, you know, keeps getting bigger every time
you hear about it. How big do you think reasonably?
It could be?
Speaker 9 (44:12):
Actually perfect timing, We just published our asset management Outlook
and we put a number there three to six trillion
dollars over the next five to ten years, And it's
actually very simple math. This is really more of just
conceptual aspect of understanding what the banking may mean. And
(44:32):
again it really matters of where we end up in basil,
both in the US and in Europe particularly. So if
you think about seventeen trillion dollars or loans roughly on
US banks balancing or in eighteen trillion euros on the
European banks balance, so that's roughly thirty trillion plus loans.
So you know, you name, I guess is it going
(44:53):
to be ten percent of that potentially living the system
and in a secuzation for over the next ten years.
I would say three trillion is probably the lawmark. So
that's you know, McKinsey put like our six trillion, So
we are ranges through to six trillion, but it's truly
based on the balance sheet of the banks and the
assets that potentially may may leave to be more capital efficient.
Speaker 1 (45:14):
So when Apollo says forty trillion, that just I think they're.
Speaker 10 (45:17):
Just summing up the europe and the US banks balance.
Speaker 1 (45:20):
That's not really the prophesizon.
Speaker 9 (45:23):
I don't think so well, depends on the horizon. Let
me correct myself, you know, depending on the horizon it.
Speaker 1 (45:27):
Do you think that next year, twenty twenty five, we
will still be talking about private credit as much as
we have been this year.
Speaker 9 (45:34):
Yes, because the competition is going to be fierce and
the banks will probably not gonna have the danger of
Basil in its original proposed form, which means that the
competition not just between the private credit lenders but within
private credit and BSL is going to continue like you
(45:54):
did this year. But think about this year was largely
refised no m and A, and next year, if the
economic projections are sustained of stable and the growth or
unleashing the animal spirits is the new administration wants to
call it, there's going to be m and A, which
means that a lot of these deals will continue going
(46:15):
dual process, so the spreaci of titan and will continue
to tighten apps in some big macroeconomic shock or or
geopolitical issue.
Speaker 1 (46:23):
That all sounds very much like a rational exuberance to me.
Does that not mean a lot more risk in private
credit next year?
Speaker 2 (46:29):
For sure?
Speaker 9 (46:30):
From a risk perspective, competition on terms and pricing is
not good so that's something that definitely willing to be watching.
As you know, earlier this year, we start differentiating our ratings,
particularly the large credit PDCs that we read, and we
certainly have seen divergence of performance and some some of
the PDCs are suffering not only from a non ACRUL perspective,
(46:51):
you know, the level of payment and kind loans. So
I think next year is going to be another year
of differentiation.
Speaker 1 (47:03):
Aidan Cheslin, head of European credit research at Bloomberg Intelligence,
thank you so much for being on the credit edge.
Speaker 4 (47:07):
Great to be here again.
Speaker 1 (47:09):
We're in the US. All we hear about markets right
now is US exceptionalism. All we hear about Europe is
political crisis and ailien economies and all sorts of problems.
But when you look ahead to next year, Aiden, what
are the bright spots in terms of European credit.
Speaker 4 (47:25):
I think there are a few. I think you look
at some of the sectors that have outperformed like this year,
like high yield and corporate hybrids in particular, corporate hybrids
has been one of our pet trades for the last year.
I think I was on this podcast earlier in twenty
twenty four talking about a focus idea that we had
on the asset class where we looked at the relationship
(47:47):
between where hybrid bonds were trading and versus high yield,
and we thought that that relationship between those two asset classes,
which was around one hundred and fifty basis points spread
between the average yield on a non real estate corporate
hybrid bond and the double B senior space. It was
around one hundred and fifty bits that came in as
(48:10):
tight as about forty forty five basis points two or
three weeks ago. It's widened back out to about seventy
eighty basis points. But we think that there's still plenty
left in that trade, given that these two curves traded
flat to one another several times during the last three
to four years. So notwithstanding the amount of carry that
(48:32):
there isn't in that space as well, I definitely say
corporate hybrids is something to continue to look out for
next year.
Speaker 1 (48:39):
What kind of sectors are we talking about when we
talk about hybrids in Europe?
Speaker 4 (48:43):
It's cross all sectors really, you know, a lot of
the beta has come from real estate over the last
couple of years. We exclude those names from the analysis.
That I was just discussing, but certainly real estate had
a better year than I think consensus was really expecting
in twenty twenty four. A lot of the more distressed names,
if you think of the around towns of this world,
(49:04):
did end up tendering for bonds and even calling some
bonds that the market was very nervous about getting called
or not. So the behavior was a lot better than
expected there and that's led to quite a broad based
rally across the corporate hybrid universe. And I think, you know,
we see some more issuance in that space in twenty
(49:26):
twenty five, which will give opportunity for yield for investors
that are experienced in European real estate sector.
Speaker 1 (49:37):
Most people looking at European hybrids would have thought about
bank debt eighty One's that sort of thing. I know
that's not your direct area of focus. But is that
trade played out now? Is it still juc in it?
You think so?
Speaker 4 (49:49):
Our bank's analysts still like the sector. Admittedly probably not
as much spread tightening as we saw in twenty twenty four,
probably potentially a little bit more of a carry trade
in twenty twenty five, but by and large we still
remain constructive on bank capital and subordinative bank capital.
Speaker 1 (50:07):
One name that I'd like to ask you about constantly
is Altice because it's such a huge capital structure that
has been in trouble and I think used the word
Jenga tower when you were on this show earlier this year,
and you know, it's obviously got big ramifications for US
creditors as well. But what's the situation now and where
do we think things are going to go next year?
Speaker 4 (50:27):
Yep, So we're talking about Altis France specifically. We've already
had one round of talks between the company sponsors and
it's a debt group or the group of bondholders that
formed to discuss a potential restructuring, which is didn't seem
(50:49):
that far apart on absolute numbers, but I think there
was a desire to get a better control of the
direction of the company amongst the bondholders, and that was
where a lot of the gap seem to be between
the bondholders and the company in terms of coming up
with a restructuring program that has to you think, reach
some kind of conclusion before some of the twenty twenty
(51:10):
five debt maturities. So I think we'll hear more on
that probably in Q one. And then the other question
around that we get asked is well, what's what's the
next Altis France? Is it Eltis International. There's certainly some
big challenges with Altis International. We've seen a big rise
in in leverage this year there and I think you know,
(51:31):
particularly if you look at how the subordinated bonds of
out East France have been treated, there's some tail risk
in the subordinated bonds of Oltis International. And the other
area that's kind of adjacent to that where there's a
potential for more distress I'd say more medium term rather
than very short term, but is in the satellite space.
(51:51):
So there are two big satellite names in Europe. One
util Sat, which has fallen to single B and is
looking in crely distressed, and then you've got Sees sitting
at triple bus with a lot of work to do
to convince the market that it justifies investment grades spreads.
Speaker 1 (52:10):
There's also a lot of political noise in the big
economies in Europe, and there's also potentially a big impact
from tariffs and all of the stuff that might be
coming from the next US administration. Does any of that
bleed through to your credit work and the outlook that
you have some of these companies.
Speaker 4 (52:25):
Yeah, of course, you know, you can't really ignore it.
I think, you know, we've seen Trump use tariffs as
a bit of a stick before, so I think there's
a very much a wait and see attitude in Europe
really is to you know, I think some of the
widening has been kind of already happened, but there's a
bit of a wait and see attitude now to see
whether that really filters through into tarishs that genuinely damage economies,
(52:50):
or whether it's more of a stick to beat those
economies into spending more on defense or whatever the pet
peeve is. So I think we're kind of in a
wait and see holding pattern on that. For continental Europe.
I think the UK is probably slightly better positioned, but
we'll just have to wait and see on that one.
Speaker 1 (53:06):
Great stuff. Thank you very much for being on the show.
Please do subscribe wherever you get your podcasts. We're on Apple, Spotify,
and all other good providers, including the Bloomberg Terminal at
bpod Go. Give us a review, tell your friends, or
email me directly at Jcrombieight at Bloomberg dot net. I'm
James Cromby. It's been a pleasure having you join us
again next week on the Credit Edge
Host
James Crombie
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On Purpose with Jay Shetty
I’m Jay Shetty host of On Purpose the worlds #1 Mental Health podcast and I’m so grateful you found us. I started this podcast 5 years ago to invite you into conversations and workshops that are designed to help make you happier, healthier and more healed. I believe that when you (yes you) feel seen, heard and understood you’re able to deal with relationship struggles, work challenges and life’s ups and downs with more ease and grace. I interview experts, celebrities, thought leaders and athletes so that we can grow our mindset, build better habits and uncover a side of them we’ve never seen before. New episodes every Monday and Friday. Your support means the world to me and I don’t take it for granted — click the follow button and leave a review to help us spread the love with On Purpose. I can’t wait for you to listen to your first or 500th episode!