A new report from BNP Paribas Investment Partners and Fischer Francis Trees & Watts (FFTW) entitled The Search for Yield: A Look at the Spread Sectors in 2014 predicts that with the expected lift in US interest rates, spread sectors are expected to perform well overall in 2014.
“For the [US Federal Reserve] to wind down unconventional policy measures further and signal rate hikes, its members will have to be convinced that the US economy is growing sustainably,” said BNP Paribas head of global credit Christophe Auvity.
“If that becomes the case and US economic growth achieves “escape velocity”, it should be a positive economic environment for companies and thus for credit markets,” Mr Auvity said, adding that the sectors best able to withstand rising interest rates will be those with strong credit and a significant spread to absorb further tightening by the Fed.
“This would likely include the higher-beta credits such as high-yield bonds, subordinated bank debt, credit from the peripheral eurozone countries and hybrid corporate bonds,” he said.
Mr Auvity also noted this trend is already underway, given market evolution in 2013.
“Lower-rated eurozone corporates have outperformed their higher rated peers in 2013,” he said. “We see higher-beta sectors offering further outperformance potential in 2014.”
BNP Paribas portfolio manager, high yield credit, Jim Kourkoulakos favours the energy sector for high-yield bonds given the number of smaller companies focusing on shale production that have made necessary capital investment and land purchases are now in a position to perform well.
“Due to the strategic nature of shale, there is potential for price appreciation,” Mr Kourkoulakos said, “but I’m more cautious about the metals and mining sector. These issuers’ capital structures require revenue growth and unless we have a strong global economy, that growth will not occur.”
While the report was optimistic about the US bond market in general, it noted that liquidity is quietly becoming a primary concern.
“The ability of large investment banks to provide liquidity and take on risk has been greatly restrained by recent regulation,” BNP Paribas portfolio manager, investment grade credit, Dan Singleman said.
“Furthermore, there are more buy-and-hold managers in the market today and it is becoming difficult to find supply as life insurance companies and pension funds are holding on to these securities.”
Head of global loans Vanessa Ritter said opportunistic trading of European and US bank loans will be necessary to achieve additional yield as she does not expect to see any significant price appreciation in this sector in 2014.
“We expect near-coupon returns,” Ms Ritter said.
