- The rally is underpinned by still-ample liquidity in the financial system.
- Spread compression notwithstanding, credit yields are attractive in absolute terms.
- Constructive credit sentiment is also centred around expectations of forthcoming disinflation.
- Beyond the US, Asian credit has gained in value in virtually all sectors.
- China’s growth supportive measures could keep the rally going.
Commentary: Credit rally amidst tightening
A remarkable rally in global credit markets continues, defying a substantial repricing of the timing and depth of monetary policy easing in the near term. After this year’s rally, investment grade and high yield USD credit are rich by historical standards, just when one would expect worries about the higher-for-longer narrative weighing on credit risk pricing. There are good reasons for buoyant sentiments. Despite higher rates and QT, central banks’ provision for liquidity is still ample, with the combined balance sheets of the Fed, ECB, BoE, and BoJ still larger (both in nominal terms and as a share of GDP) than pre-pandemic peaks. Also, while the spreads look rich, they are priced from 5.5% short-term rates, meaning credit yields are attractive in absolute terms. Credit investors may find the spreads narrow, but they have not enjoyed such high returns in decades.
An additional, and critical, conviction is lingering; it is centred around rate cuts. The view is when they come, they would likely be a function of inflation easing toward the Fed’s target, as opposed to a reaction to recessionary developments.
Good times for credit extend beyond the US. EM credit has rallied robustly across geographies and sectors. Here in Asia, except for Hong Kong, key markets followed by us are looking highly constructive. Even China, where the macro narrative has been challenging for long, spreads have been narrowing, from financials to industrials, from utilities to energy. The beleaguered real estate sector remains stressed, but one should not ignore its 140bps rally since November 2023. A series of supporting policy measures are helping.
Beyond China, India credit has seen robust rally in all six key sectors we track; same with Indonesia. Korea looks good mostly, except for its real estate and REITs sector.
Can the good times last? Only if inflation doesn’t rebound, in our view. A couple of negative inflation surprises could stall and even reverse the historic rally in the credit space. Short of that, credit investors can continue to appreciate a rich and well rewarding market.
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