Investors are buying up riskier corporate debt in a bet that US economic expansion will accelerate due to the boost of government stimulus and tax cuts proposed by president-elect Donald Trump.
Despite a $1.6tn hit to fixed-income portfolios in the wake of the global bond market rout, losses concentrated within the sovereign debt sphere, investors have warmed to the idea that a burst of stimulus at the start of Mr Trump’s first term in January will buoy the sales of US companies while tax cuts bolster margins and earnings.
While stock indices have rallied, a rotation is under way within the fixed-income sector as investors reduce their positions in safe haven US government debt in favour of riskier corporate bond funds.
“Some investors have their foot on the gas expecting great things to come from the Trump rally,” said Robert Cohen, director of global developed credit at asset manager DoubleLine Capital. “But other investors have become more cautious noting that we are late in the credit cycle.”
“There is a lot of exuberance about the Trump presidency, but he’s not in office yet and we don’t know . . . how successful [his plans] will be.”
Riskier US corporate bonds tend to benefit when interest rates are rising and economic growth is accelerating, as there is a greater buffer between the yield those bonds offer and benchmark government notes. Since the start of the month, so-called high-yield bonds have fallen 0.6 per cent compared to a 2.4 per cent drop by both higher rated investment grade companies and US Treasuries, according to Bloomberg Barclays indices.
“It’s clear the market is very comfortable with the outcome of the election and what the potential implications are for growth and business policy,” said Kathleen Gaffney, a portfolio manager with Eaton Vance.
The election has “given investors a bit more confidence”, Ms Gaffney said, adding investor appetite for emerging market debt was also materialising.
High-yield US corporate bond funds counted their first inflows last week since the middle of October, according to EPFR, while flows into investment grade US corporates returned to positive territory after redemptions a week prior.
A rally in high-yield bonds earlier in the year was led by energy and commodity-linked companies.
There is nonetheless a widening schism among fixed-income investors, with growing concern that valuations are high and the fiscal stimulus may prompt a more active Federal Reserve, particularly as inflation climbs towards the central bank’s target.
Strategists with JPMorgan Asset Management warn that the Fed could raise rates as many as four times next year if inflation measures continue to firm, a faster pace than the market has currently priced in.
Investors have retreated into shorter-dated offerings to blunt losses tied to rising interest rates, said Scott Service, Loomis Sayles portfolio manager. So far this month shorter-dated investments have outperformed longer bonds, with 10 and 30-year bonds sliding rapidly. Apple bonds due in 2046 slid from nearly 99 cents on the dollar on election day to 94 cents on Wednesday, while the iPhone maker’s debt due in 2019 has dropped less than a penny.
“Investors are looking for shorter duration corporate [debt],” Mr Service said. “Especially the large demand from overseas, which has been for [corporate debt maturing within] five years and in.”
High debt burdens have also made some investors reluctant to dive into the market, particularly as spreads on high yield and investment grade debt remains near its lowest level of the year.
“It is unclear yet what the Trump presidency means for credit markets considering where we are in the credit cycle,” Mr Cohen added. “We’re certainly not putting on those trades.”
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