The corporate credit markets continued to adjust to rising U.S. government bond yields and a steeper yield curve in the wake of the U.S. presidential election results. Once again, investment grade corporate bonds were an underperformer as investors continued to shift away from safe-haven and longer-duration assets. Investment grade corporate bonds returned approximately -0.79% in the week ended November 17, and are now providing returns of -2.18% since the November 8 election.1 High yield bonds performed somewhat better, returning -0.18% in the week ended November 17, as the sharpest rise in U.S. Treasury yields since the Taper Tantrum of 2013 and rising inflation concerns reduced demand across most fixed income asset classes.2,3 In the sixth consecutive weekly outflow, investors withdrew nearly $2.3 billion from high yield bond mutual funds in the week ended November 16.4 Month to date, high yield bond returns, at -1.1%, are now negative for the first time since February.2 As withdrawals from high yield bond mutual funds mount, inflows for bank loan mutual funds have gained momentum, with bank loan mutual funds seeing $666.4 million in inflows during the week ended November 16.4 This was the largest weekly inflow since February 2014 and brings net inflows to nearly $4.5 billion since the beginning of August.4 In that context, floating rate senior secured loans continued to post modest gains, returning 0.11% during the week ended November 17, and 0.14% since November 8.5
Energy high yield bonds and energy senior secured loans were flat to slightly better this week as oil prices rose on ongoing hopes that OPEC will agree to curb output at its November 30 meeting. Year to date, energy high yield bonds and energy senior secured loans are now providing gains of 31.6% and 28.4%, respectively.6 Industries expected to benefit under a Trump administration continued to outperform the broader benchmarks this week. Notably, the high yield bonds of financial companies were positive, providing returns of 0.60% in the week ended November 17.7 Meanwhile, the metals and mining sector gave back some of the prior week’s gains, slipping -0.51% after returning nearly 1.8% during the week ended November 10.8 In contrast to high yield bonds, senior secured loan performance skewed positive across most industries, with the metals and mining, financials, information technology and utility sectors all outperforming the broader index.9
One potential implication of the presidential election is a pivot away from the monetary stimulus of the past several years to fiscal stimulus in the form of increased infrastructure spending and lower taxes. The result may be increased U.S. economic growth, growing inflationary pressures and rising interest rates. In response, U.S. Treasury yields rose across the curve for a second week, with the yield on the U.S. 10-year Treasury note rising to its highest level of 2016.3 With data out this week showing that U.S. retail sales grew at the fastest pace in almost two years and from the Federal Reserve Bank of Atlanta saying wages grew in October at their fastest pace since November 2008, market-implied expectations of a December rate hike have risen to 96%.10,11,12 With a near-term rate hike now all but certain, investors have turned their attention to 2017 and the possibility that the U.S. Federal Reserve might quicken the pace of tightening should inflationary pressures increase. While investors will look to the Fed’s December policy statement and the accompanying “dot plot” for further clues about the future path of interest rates, in a statement before the U.S. Congress this week Fed Chair Yellen continued to signal her support for gradual rate hikes: “The risk of falling behind the curve in the near future appears limited, and gradual increases in the federal funds rate will likely be sufficient to get to a neutral policy stance over the next few years.”13
Chart of the week: Diverging markets
- Markets have undergone a major transition in the trading days since the U.S. presidential election. As we highlighted in last week’s market commentary, investors’ immediate reaction to President-elect Trump’s victory was to buy stocks and sell bonds in preparation for a new potentially inflationary environment.
- With more time to digest the results of the election, investors appear to have doubled down on this trade, opening up a large divergence between growth- and income-oriented investments.
- As the chart highlights, small cap stocks have climbed nearly 10.0% since November 8 while large cap stocks have risen more than 2.0%.14 Alternatively, high yield bonds have declined almost 1.0% while experiencing outflows of approximately $2.3 billion for the week ended November 16.15 Returns on 30-year Treasury bonds in the same time frame are down more than 7.5%. Senior secured loans sit in the middle, with roughly flat total returns since the election.
- Investors clearly appear to have begun preparing themselves for an environment of higher growth, higher inflation and higher interest rates. However, such large moves over the course of so few trading sessions may be an overreaction.
- Market or economic fundamentals do not change overnight. Many of the conditions that put in place today’s low-growth and low-interest rate environment in the United States and around the world – aging populations, limited productivity growth and stagnant corporate profits among them – are likely to remain in place through the coming years regardless of the election results.
1 Bank of America Merrill Lynch U.S. Corporate Master Index.
2 Bank of America Merrill Lynch U.S. High Yield Master II Index.
3 Federal Reserve Bank of St. Louis, http://bit.ly/29ecBfp.
4 Thomson Reuters Lipper.
5 Credit Suisse Leveraged Loan Index.
6 Bank of America Merrill Lynch High Yield Energy Index, Credit Suisse Leveraged Loan Index (energy component).
7 Bank of America Merrill Lynch High Yield Diversified Financial Services Index.
8 Bank of America Merrill Lynch High Yield Metals and Mining Index.
9 Credit Suisse Leveraged Loan Index (metals and minerals, financials, information technology and utility components).
10 U.S. Department of Commerce, http://bit.ly/L7q3Tc.
11 Federal Reserve Bank of Atlanta, http://bit.ly/28TBNnP.
12 Bloomberg, based on CME data.
13 U.S. Federal Reserve, http://bit.ly/2f3Ld2K.
15 J.P. Morgan High-Yield and Leveraged Loan Morning Intelligence, November 18, via Thomson Reuters Lipper.
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