Investors absorbed a heavy calendar of corporate earnings, some renewed commodity price volatility and an abundance of economic news this week. The result was a somewhat mixed week for corporate credit, with high yield bonds recording a modest decline and senior secured loans posting a slight gain. High yield bonds declined by approximately 0.30% in the week ended July 28, trimming month-to-date and year-to-date returns to 2.60% and 12.16%, respectively.1 Senior secured loans skewed to the positive, returning 0.19% in the week ended July 28, bringing the month-to-date and year-to-date returns to 1.42% and 5.71%, respectively.2 With oil prices declining to a three-month low, energy credit was lower on the week, with high yield energy bonds declining approximately 1.97% in the week ended July 28.3,4 However, energy senior secured loans were less affected by recent commodity price volatility, declining by approximately 0.26% over the past week.5 Despite this week’s declines, the relationship between energy credit prices and oil prices continues to show signs of breaking down. Against a weaker commodity price backdrop in July, high yield energy bonds and energy senior secured loans are generating month-to-date returns of 1.04% and 1.78%, respectively.4,5
Middle market premium
As investors digested a number of second quarter corporate earnings this week, the performance of private middle market companies continued to improve. Notably, revenue of U.S. middle market companies rose 7.2% in the second quarter of 2016, up from a 6.3% gain in the first quarter of 2016, according to National Center for the Middle Market’s quarterly indicator.6 The second quarter growth exhibited by middle market companies is above the historical average of 6.4% and near the highs reported in late 2014 and early 2015.6 “Revenue growth is coming from both ends of the middle market spectrum; with the largest middle market businesses reporting particularly strong increases in the rate of growth,” according to the report.6 Nearly two-thirds of middle market businesses (64%) said company performance improved over the past 12 months, and nearly three-quarters (72%) said revenues increased over the past 12 months.6 The performance of middle market companies in the second quarter appears even more favorable when compared to larger, public companies. With the corporate earnings season now in full swing, aggregate earnings of S&P 500 companies are expected to decline 3.0% in the second quarter.7 For added perspective, based on the 31% of the S&P 500 companies that had reported second quarter financial results as of July 26, aggregate revenue was estimated to decline 0.1% in the second quarter.8
Economic data was mixed this week, with lower-than-expected second quarter U.S. GDP figures capping off a relatively busy economic calendar. U.S. GDP grew at just 1.2% in the second quarter, as strong consumer spending was offset by a decline in business investment.9 While the headline number came in well below expectations, bright spots in the report included robust domestic consumption figures and a decline in inventories.9 Nevertheless, the weaker-than-expected report pushed thoughts of a potential rate hike even further from the minds of investors, with yields on U.S. government bonds declining across the curve and Fed fund futures showing diminished expectations of a rate hike later this year.10 The GDP figures overshadowed other economic data this week, including strong U.S. new home sales and stable consumer confidence data, which reinforced a slightly more upbeat assessment of the U.S. economy.11 In its statement this week, the U.S. Federal Reserve gave a nod to recent labor market strength and other upbeat economic data, as well as adding the single sentence: “Near-term risks to the economic outlook have diminished.”12 This somewhat more upbeat assessment of the U.S. economy was thought to have re-opened the possibility of a rate hike later this year and, without a Fed meeting scheduled for August, the next chance will come in September. However, with the economy having grown at less than 2% for three straight quarters, a rate hike in September appears to be more of a long shot, with investors now placing a less-than-even chance of one coming in either November or December.10
- Income-oriented investors continue to face challenges in the second half of 2016, as yields across a wide range of investments have declined further, while an increasing percentage, and amount, of the world’s sovereign debt actually generates negative yields.13
- The 10-year German bund and 10-year U.S. Treasury note have recovered off historic lows in the weeks since the Brexit vote. Still, the yield on the bund remains in negative territory while the U.S. Treasury note yields only approximately 1.5% – a decline of 70 basis points from its already-low starting point in 2016.14
- The Federal Reserve’s statement this week following its July meeting reiterated the idea that yields on U.S. Treasury notes could remain low for some time. The statement was slightly more upbeat than the Fed’s comments following its June meeting, yet it continued to paint the picture of a Fed that is in no hurry to raise the federal funds rate.11
1 Bank of America Merrill Lynch High Yield Master II Index.
2 Thomson Reuters Lipper.
3 Credit Suisse Leveraged Loan Index.
4 J.P. Morgan High-Yield and Leveraged Loan Morning Intelligence, July 22, 2016.
5 U.S. Department of Labor: http://bit.ly/2a2oPZQ.
6 National Association of Realtors: http://bit.ly/1sLwYUP.
7 The Conference Board: http://bit.ly/1fLVlWY.
8 U.S. Department of Labor: http://bit.ly/29t3PbK.
9 U.S. Department of Commerce: http://bit.ly/L7q3Tc.
10 Bloomberg, based on CME data.
11 Federal Reserve Bank of St. Louis: http://bit.ly/29ecBfp.
12 The Wall Street Journal: http://on.wsj.com/2ab7xrI.
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