/institutional/perspectives/sector-views/high-yield-and-bank-loan-outlook-october-2016

High-Yield and Bank Loan Outlook – October 2016

Despite the recent rise in prices and tightening of spreads, interest expense coverage ratios for non-commodity high-yield issuers are relatively low, and the domestic economy is resilient.

October 14, 2016

Report Highlights

The leveraged credit market turned in another impressive quarter, but valuations suggest caution going forward. Prices have risen for high-yield bonds and bank loans, and we are concerned about rising levels of leverage, ongoing troubles in the banking sector, and uncertainty surrounding upcoming political events—including the U.S. presidential election, the Italian constitutional referendum, and key European elections. Nevertheless, interest expense coverage ratios for non-commodity high-yield issuers are strong, and the domestic U.S. economy is relatively healthy. In this environment, we will likely be selling into strength and buying on weakness. As a lower beta credit play, we believe the bank loan market currently offers better value than high-yield bonds.

  • The Credit Suisse High-Yield Bond and Leveraged Loan indexes posted gains of 5.7 percent and 3.0 percent in the third quarter, bringing year-to-date returns to 15.5 percent and 7.5 percent, respectively. Year to date in 2016, high-yield bonds have outperformed the S&P 500, which has gained 7.8 percent on a total return basis.
  • Because markets are a discounting mechanism, the fundamental improvement in the high-yield market is already reflected in current valuations. High-yield bond prices are averaging 94.9 percent of par, the highest since July 2014, with BB-rated and B-rated bonds trading at 106 and 102 percent of par, respectively.
  • As the lower beta credit play, we believe the bank loan market currently offers better value than high-yield bonds. We are treading carefully, however, as a large portion of the market trades above par despite having limited call protection.
 

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