Contagion Rejected as Western Asset Buying Junk: Credit MarketsLisa Abramowicz, Sridhar Natarajan and Jessica Summers
Michael Buchanan knew exactly what to do as markets were rocked in recent weeks on concern turmoil in developing nations from Argentina to China and Turkey would cause the global economic recovery to derail: buy junk bonds.
“A real dramatic freefall is unlikely in our opinion,” Buchanan, who oversees $127 billion of credit investments at Western Asset Management Co. in Pasadena, California, said in a telephone interview yesterday. “We were buyers on days of weakness over the past couple weeks.”
Money managers from Western Asset to AllianceBernstein Holding LP say they are uncowed by the selloff in emerging markets and stocks, betting that the global economy is strong enough to withstand such shocks as central banks keep filling the world with cheap cash. Their bullishness contrasts with individual investors who during the past two weeks pulled almost $2 billion from exchange-traded funds that focus on speculative-grade bonds, including the biggest one-day withdrawal ever for BlackRock Inc.’s junk fund.
“There has been no contagion effect at this point,” Scott Baskind, a senior money manager for Invesco Ltd.’s bank loan group, which manages about $28 billion of the debt, said in a telephone interview. “Institutional investors will likely use the opportunity to add exposure.”
Credit investors are benefiting from unprecedented Federal Reserve stimulus that entered a sixth year and growth in the world’s biggest economy that economists forecast will accelerate to 3 percent by the end of 2015. Even after average annualized returns of 9.4 percent since 2008 in the Bank of America Merrill Lynch Global Corporate & High Yield Index, strategists at bond dealers from JPMorgan Chase & Co. to Barclays Plc see potential for additional gains this year.
Investment-grade debt has returned 1.79 percent since year-end, bolstered by a rally in Treasuries that have returned 1.83 percent as buyers gravitate toward safer assets. Speculative-grade securities globally have gained 0.47 percent, while the MSCI World Index of stocks has plunged 5.39 percent.
Bank of America credit strategists led by Hans Mikkelsen advised investors in a Feb. 3 report to “consider the recent emerging-markets sell-off a buying opportunity” after the extra yield investors demand to own investment-grade bonds instead of similar-maturity Treasuries widened an average 9 basis points to 128 basis points since Jan. 22. Spreads on junk bonds worldwide jumped 44 basis points to 455, the highest in more than two months.
January gains of 0.6 percent in the Standard & Poor’s/LSTA U.S. Leveraged Loan 100 Index, marked the first time since October 2012 that the floating rate debt has advanced despite a monthly drop in the S&P 500 index.
Prices on the index, which are up 0.32 cent for the year at 98.56 cents on the dollar, have dropped off the seven-year high of 98.9 cents reached on Jan. 17, index data show. The measure tracks the 100 largest first-lien loans.
Leveraged loans and speculative-grade bonds are rated below Baa3 by Moody’s Investors Service and lower than BBB- at S&P.
Institutional investors are stepping in as individuals back away from the riskiest debentures, yanking $1.9 billion from the 10-biggest junk-bond ETFs since Jan. 22, the day before a report showing that a gauge of China’s manufacturing contracted and triggered the selloff in emerging markets, according to data compiled by Bloomberg. Total assets in those funds dropped to $32.9 billion through yesterday.
BlackRock Inc.’s $13.2 billion junk-bond exchange-traded fund reported a $630 million outflow on Feb. 3, its biggest one-day withdrawal since its inception in 2007, Bloomberg data show.
“These corrections as they occur provide opportunity,” Invesco’s Baskind said. “Any volatility or softness in the market will provide an opportunity and we will look to capture the volatility where we believe is a good entry point.”
AllianceBernstein is “modestly overweight” credit, which “continues to look attractive,” said Ashish Shah, head of global corporate-debt investments at the firm, which managed $451 billion as of Dec. 31. Bill Housey, a money manager at First Trust Advisors LP, which manages $85 billion in assets, said he’s “very bullish on credit.”
The global economy will likely expand by 2.84 percent this year and 3.07 percent in 2015 as central banks from Japan to Europe maintain stimulus to ignite growth, according to economists surveyed by Bloomberg.
The outlook for credit has been bolstered by default rates below historic averages. The U.S. speculative-grade default rate dropped to 2.2 percent in the fourth quarter of 2013, from 2.7 percent in the prior quarter and 3.4 percent a year earlier, according to a Jan. 9 report from Moody’s. That compares with as much as 13.4 percent in the third quarter of 2009.
“Underlying corporate credit fundamentals are very strong, balance sheets are healthy, default rates are falling from even low levels, corporate earnings are solid,” Edward Marrinan, a credit strategist at RBS Securities, said in a telephone interview from Stamford, Connecticut. “When taken all together, I think credit investors are rather confident that their asset class will be supported.”
The cost of protecting high-yield corporate bonds fell yesterday from the highest in more than three months. The Markit CDX North American High Yield Index, a credit-default swaps benchmark used to hedge against losses or to speculate on the creditworthiness of junk-rated companies, rose 2 basis points to 357.2 basis points as of 11:52 a.m. in New York, according to prices compiled by Bloomberg. That compares with an average 377.5 for the past 12 months.
Even bonds from companies in emerging markets are drawing interest from investors from Pacific Investment Management Co. and Loomis Sayles & Co.
Dan Ivascyn, co-manager of the $30.7 billion Pimco Income Fund, sees potential opportunities for income-focused funds to shift from junk-rated corporate debt to “some of the higher-quality assets within the emerging markets,” he said in a telephone interview.
Scott Service, a money manager on Loomis Sayles & Co.’s global bond team, said he’s also looking at potential opportunities in emerging-market credit. “We’re basically classifying this as a little bit of a pullback,” he said.
Western Asset’s Buchanan said the firm has been adding to its high-yield bond allocation while reducing its investment-grade corporates. It’s also been buying bonds of financial companies.
“We have various price points where we want to add to our allocation,” he said.
Burned before when they pulled back from risk-taking in debt markets, investors are reticent to do so again, said Stephen Antczak, the head of U.S. credit strategy at Citigroup Inc. in New York. Amid concern last year that the Fed would taper its stimulus too quickly, corporate bonds globally lost 3.9 percent in May and June, the Bank of America Merrill Lynch index data show. The securities have since gained 3.9 percent.
“They’re a little bit more cautious about selling,” Antczak said in a telephone interview. “When they’ve done this in the past, it hasn’t worked.”