Corporate credit markets benefited from a further rise in oil prices and some solid U.S. economic data, largely avoiding the volatility seen in either the currency or government bond markets at varying times throughout the week. High yield bond prices ticked higher, finishing the third quarter with a gain of approximately 5.5%.1 Taking into account this week’s gain, high yield bonds have generated year-to-date returns of approximately 15.8%, helped by rising commodity prices and ongoing inflows into the asset class.1 Following this week’s $1.9 billion inflow into high yield bond mutual funds, year-to-date inflows into the asset class now total nearly $11.3 billion.2 This stands in stark contrast to the $16.4 billion and $23.9 billion in net outflows recorded in 2015 and 2014, respectively.2 Senior secured loans have similarly benefited, with rising LIBOR and the growing possibility of a near-term rate hike driving increased flows into bank loan mutual funds in recent weeks.2 Senior secured loans returned approximately 0.18% in the week ended October 6, boosting year-to-date returns to more than 7.6%.3 Senior secured loans returned 0.87% in September despite heavier new issuance volume, the majority of which was used to refinance existing loans at lower rates.3,4 Yields across the high yield bond and senior secured loan markets continue to see significant compression in the face of ongoing investor demand. From 10.0% in February, high yield bond yields have since declined to a 15-month low of 6.14%.5 After beginning 2016 near 7.5%, senior secured loan yields have since tightened to 6.10%.6
Throughout 2016, commodities have remained a key driver of yield compression, as the energy and metals and mining sectors continue to outperform other sectors. Energy credit received an additional boost this week after crude oil prices passed $50 a barrel for the first time since late June.7 Despite uncertainties around OPEC’s agreement in principle to cut production to a range of 32.5–33.0 million barrels per day, oil prices continued to gain this week on data that showed U.S. oil inventories falling for a fifth consecutive week.8,9 The U.S. Energy Information Administration (EIA) said U.S. supplies fell by 3 million barrels in the week ended September 30, bringing total inventories to their lowest level since January.9,10 Over the past 12 months, which includes the declines sustained in the fourth quarter of 2015 when high yield energy bonds returned -12.8% and senior secured energy loans returned -17.3%, high yield energy bonds and senior secured energy loans have returned 14.6% and 3.0%, respectively.11,12
While Friday’s U.S. labor market report was expected to be the highlight of the week, the rise in U.S. government bond yields was as much a response to events overseas as it was to solid U.S. economic data. Early in the week, worries over a potential reduction in the European Central Bank’s (ECB) bond-buying program contributed to a broad sell-off in government bonds, with the yield on the 10-year German bund rising above zero for the first time since September 21, and the yield on the two-year U.S. Treasury note closing at a four-month high.13,14,15 Later in the week, however, minutes from the ECB’s September meeting showed little to suggest the central bank is seriously considering winding down its asset purchase program.16 While investors continue to expect the ECB to extend its program beyond April 2017, the sell-off in global bonds highlights the potential for volatility once global central banks finally do begin winding down asset purchase programs.17 U.S. Treasury yields rose further following a string of relatively positive economic releases that strengthened the odds of a rate hike before year-end.18 Friday’s solid September nonfarm payrolls report capped off a week that featured an improvement in both the Institute for Supply Management’s manufacturing and non-manufacturing indexes and a decline in initial jobless claims to their lowest level since 1973.19,20,21 While the 156,000 jobs added in September were slightly below expectations of 170,000, average hourly earnings rose 0.2% from a month earlier and is up 2.6% over the past year.22 Friday’s labor market report is the last the U.S. Federal Reserve will see before its November 2 policy meeting, with another two to be released before its December meeting. Despite a lower-than-expected headline payrolls number and a slight uptick in the unemployment rate, odds of a December rate hike continued to move higher. At 66%, the market-implied odds of a rate hike before year-end are now at the highest level since the U.S. Fed raised rates in December 2015.23
Chart of the week: Loan inflows pick up
- Investor flows into bank loan mutual funds have turned increasingly positive in recent months, attracting $2.01 billion in September 2016.24
- With $432 million flowing into bank loan mutual funds this week, net inflows were down slightly from the $480 million figure for the week ended September 29, which was the largest weekly inflow into bank loan mutual funds in 17 months.24,18
- Bank loan mutual funds have now experienced 10 consecutive weeks of net inflows.24
- Even with the inflows of recent weeks and months, bank loan mutual funds have experienced a net outflow of more than $6 billion year to date.24 Much of this lopsided figure is a result of the nearly $8 billion in net outflows from the asset class in January and February alone.24
- With improved economic data in recent weeks, confidence that the Fed will keep rates unchanged for the long term has waned. Investors now ascribe a more than 66% chance that the Fed will raise interest rates at its December 2016 meeting.23
1 Bank of America Merrill Lynch High Yield Master II Index.
2 Thomson Reuters Lipper.
3 Credit Suisse Leveraged Loan Index.
4 S&P Leveraged Commentary and Data.
5 Bank of America Merrill Lynch High Yield Master II Index (yield-to-worst).
6 Credit Suisse Leveraged Loan Index (based on a three-year maturity).
7 Federal Reserve Bank of St. Louis, http://bit.ly/292Tgue.
8 Reuters, http://reut.rs/2dCzhIY.
9 U.S. Energy Information Administration, http://bit.ly/1Fke1JG.
10 Reuters, http://reut.rs/2dJrTYe.
11 Bank of America Merrill Lynch High Yield Energy Index.
12 Credit Suisse Leveraged Loan Index (energy component).
13 The Wall Street Journal, http://on.wsj.com/2d0l9os.
14 Federal Reserve Bank of St. Louis, http://bit.ly/2anGvQ0.
15 Bloomberg, http://bloom.bg/2dH66By.
16 European Central Bank, http://bit.ly/2dUH0iQ.
17 The Wall Street Journal, http://on.wsj.com/2dki5ED.
18 J.P. Morgan High-Yield and Leveraged Loan Morning Intelligence, Wednesday, October 5.
19 Institute for Supply Management, http://bit.ly/2dBZnbi.
20 Institute for Supply Management, http://bit.ly/2dQ9muw.
21 U.S. Department of Labor, http://bit.ly/298eR69.
22 U.S. Department of Labor, http://bit.ly/1gck641.
23 Bloomberg based on CME data.
24 S&P Global Market Intelligence via Thomson Reuters Lipper.
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