Global high yield bonds and strategies have gained 2–3% year to date, depending on the currency of the investment vehicle. Investors can be satisfied with that, in light of last year's difficult markets. However, the remainder of the year remains uncertain for the high yield bond segment. Fears of recession continue to pervade, with its negative implications for this segment of the bond market. If such a scenario occurs, we would expect credit spreads to widen. Nevertheless, average yields at around 7% for EUR bonds and 8.5% for their USD counterparts offer ample compensation, providing a good cushion against spread widening.
The fact that default rates are still below long-term averages has so far ensured relative calmness in the high yield market. However, given the current situation, with risk of recession still on the horizon, investors should opt for higher-quality bonds and avoid very low ratings. The CCC segment would be hardest hit by any recession. There we have already seen difficulties for companies to refinance due to the sharp rise in interest rates since the start of 2022. We certainly do not think now is the right time to be adding more risk to the portfolio. We are underweight cyclical sectors owing to the above-mentioned potential recessionary outlook. We are overweight industries that are better able to withstand such a scenario – and in the high-yield segment we include energy and metals here. In industrial metals we see potential in the likes of copper mines, given the e-mobility megatrend ensures structural growth in demand. Viewed positively at the start of the year, financials and technology companies should now be handled with a degree of caution. The simmering crisis affecting US regional banks, coupled with deteriorating financing conditions, is having a negative impact here.
Currently, we favour European high yield bonds on the basis of their fair valuations relative to the slightly more expensive USD market and a higher carry, as well as their more defensive sector composition. The shorter duration, and therefore the lower sensitivity to rising interest rates, also favours long-term investments in EUR high yield bonds. Only in terms of liquidity is the USD market at an advantage in the event of any market stress. From a risk perspective, we remain fairly cautious on high yield issuers from emerging markets considering the current overall situation. Here we wait for greater clarity on economic developments.
In summary, we believe high yield bonds remain attractive from a risk/return perspective – including valuations versus equities, which in addition do not benefit from the above-mentioned interest-rate cushion should a recession occur. Given that identifying an attractive entry point is very tricky, we think it makes sense for investors to gradually build up positions in the better-quality components of the high yield segment. The long-term investment horizon is more important than ever, as short-term market timing is subject to too many factors and variables. It may not be the best of all worlds for high yield bonds right now, but it is certainly not the worst either. High yield bonds offer attractive yields with a substantial cushion in the event of spread widening. Furthermore, if the economic situation develops more favourably than is currently expected, we anticipate significant gains on top of an already attractive coupon. Consequently, this asset class remains an important and attractive addition to bond portfolios in our view.