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4.11.2019 56

High Yield: deep diving needed due to a more uncertain outlook

Published November 4, 2019

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The backdrop for global high yield


Theme 1: Weakening global outlook with alternative scenarios in sight

 

Global growth has been slowing since 2018, due to a combination of factors, including trade wars - with consequently slower global trade - past US Fed tightening, and rising geopolitical risks. This slowdown has become more pronounced in the last couple of quarters, especially in the most open economies, such as Europe and some EM, while the US economy has remained relatively more resilient despite losing momentum.

Our main scenario is for a synchronised global deceleration with the bottom to be hit in the first half of 2020 and growth below potential in most advanced economies throughout next year. The uncertain outlook is weighing on private investment, though we don’t expect to see any major spill-over to private consumption. We expect some de-escalation of trade tensions between the United States and China, which would pave the way to a normalisation of trade trends in 2021.

Inflation should stay low and pick up slowly from 2020. Major central banks will remain accommodative, but market expectations have probably gone too far in discounting further easing. We expect the Fed to cut rates a further 50 bps over the next twelve months. Some contrasting communication from central bank boards (both the Fed and the ECB) is another feature of this final part of the year and will likely continue next year, generating some volatility in market expectations, and finally in market prices.

According to our main scenario, the global high-yield (HY) market is attractive given the search for yield supported by dovish central banks, loose financial conditions, and an overall benign default outlook. Spreads are tight, but still above the cyclical bottom. There is not much room for mistakes with the current level of spreads. Any spread widening associated with market volatility could be an opportunity to be exploited. Barring any material deterioration of the main scenario, the picture is still mildly supportive of a selective approach to the asset class for investors searching for carry.

 

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