There has been a great deal of commentary recently about the risks posed by BBB rated corporate bonds. Warnings abound of a ‘bond catastrophe’ caused by quantitative tightening and, specifically, a meltdown in BBB credit as issuers are downgraded to high yield status or default. Should credit investors be worried?
Since the global financial crisis, there has been a proliferation of BBB issuance, prompted by the prevailing monetary conditions of ultra-low interest rates and quantitative easing. It is argued that, as these conditions reverse, the receding tide will reveal companies that have borrowed excessively or over-engineered their balance sheets. As they either default or are downgraded, investors will suffer mark-to-market losses at best or capital destruction at worst.
While there are some reasons for concern and a prudent approach is sensible, we feel these arguments are extreme and investors shouldn’t be spooked. A key reason for our more positive outlook, however, is our active investment approach. Through a strong investment philosophy and process, we aim to avoid bonds with an unfavourable risk/return trade-off and focus on assets with much more attractive risk/return profiles.