The chart
Credit-spread tightening seen in 2023 has been uneven – valuations have shifted from being uniformly cheap to highly diverse.
Source: 30 November 2023. Investment grade and high yield indices are based on ICE BAML corporate indices. USD structured credit is based on JP Morgan CLO index data, while EUR structured credit is from Citi CLO data. CoCos are from Bloomberg.
The context
Considering the credit market through the lens of credit spreads – the compensation investors earn over and above government bond yields – a major shift has taken place this year. In 2022, a widespread sell-off hit all areas of the credit market indiscriminately, causing a widening of spreads across the board and making valuations uniformly cheap as we entered 2023.
Since then, a combination of particularly supportive technicals (supply/demand dynamics) in certain credit markets, and a renewed focus on company fundamentals (rather than macro drivers) means we’ve seen the level of dispersion surge, both across asset classes and within them.
Credit spreads have tightened significantly in some – but not all – areas of the market; today they range from being almost the widest in 10 years to almost the tightest in the same period, as the chart shows. Markets such as US high-yield debt have become richly valued, while areas such as bank capital (CoCos) and structured credit remain overlooked and undervalued.
The conclusion
The high-dispersion, high-differentiation conditions we see in credit markets today are giving rise to areas of opportunity across a variety of credit-market segments. Interestingly, this dispersion theme is also evident within asset classes: even within more richly valued segments such as US investment-grade debt, we find pockets of value. For instance, senior US bank debt still looks attractive relative to the broader investment-grade debt market. See also here for a recent comment on pockets of value to be found within the loans market (not shown).
These are ideal conditions for bottom-up investors as we enter 2024.
