Global high-grade debt markets are blazing a path to a record rally and companies have sold more than $400 billion in bonds in January alone. 

But the sheer speed and ferocity of the advance has left some fund managers asking: Is it all happening too soon? They’re studying economic reports that point to a feeble global economy, with incomes eroded by inflation and interest rates creeping higher. 

“We believe that as the economic reality becomes clear, that we may have avoided the worst-case scenario, but still will likely fall into a negative environment for corporates,” said George Goncalves, head of U.S. macro strategy at MUFG. He’s warning against any view that the tightening in credit markets is the beginning of a durable trend. 

Still, it’s easy to see why traders have jumped into risk this year. Bonds are trading at yields that were unattainable during the era of central bank largesse and many believe that investment-grade companies are financially sound and can weather the economic turbulence. 

Investment-grade corporate bonds globally have gained more than 3.6% since the start of 2023, putting them on track for a record January return, based on Bloomberg indexes. Meanwhile worldwide debt sales are off to a brisk start, with companies from Morgan Stanley to Telecom Italia SA raising more than $400 billion this month.

Markets are still being lifted by optimism that the inflation fight is nearing an end, reducing the need for more central bank rate hikes. The debt rally has taken average yields on global high-grade company notes to 4.8%, down from a peak at 5.8% in October. Even junk bonds, which stand to lose the most in a recession, have been rebounding. 

There are now signs emerging that these gains could run out of steam. Risk premiums in both high-grade and junk bonds globally stand only a few basis points above their 10-year average, despite concerns of a looming economic slowdown.

Fraser Hedgley, head of client portfolio managers at Nomura Asset Management, said he’s started hedging some riskier parts of his portfolio, particularly emerging markets. “We have to be careful about positioning close to consensus,” he said.

With Europe’s company earnings season about to pick up pace, all eyes will be on how firms are navigating an environment that’s seeing customers tighten their belts while prices stay elevated. The region’s stock market is also showing signs of overheating, with a four-month rally starting to look stretched.

Premiums Evaporate
On the supportive side, portfolio managers are flush with cash, with high-grade funds in both the U.S. and Europe reporting several weeks of inflows, according to Bank of America-compiled data by EPFR Global. This “could keep any setback in cash spreads shallow,” Marco Stoeckle, head of credit strategy at Commerzbank AG, wrote in a note. 

Some money managers are getting increasingly cautious when spending this cash though, particularly in the hot market for new debt issuance.

“New issue premiums appear to have almost entirely evaporated. Deals are being tightened aggressively and not leaving value,” said Gordon Shannon, a portfolio manager at TwentyFour Asset Management, who’s bought only one of the more than 180 bonds offered in Europe so far this year.

“The spreads some deals are coming at, particularly hybrids—are pricing in zero volatility this year and that’s too rich for me,” Shannon said. “While recent data suggests the chances of a soft landing have improved, recession remains my base case and that needs a prudent approach.”

Elsewhere in credit markets:

EMEA

• Eight issuers are offering an equal number of tranches in Europe’s publicly-syndicated debt market so far on Tuesday, aiming to raise at least the equivalent of €14.84 billion ($16.1 billion). This has pushed the monthly total above an issuance record for January.
• Investcorp hired Suhail Shaikh, a senior executive from Franklin Templeton-owned Alcentra, to expand its private credit business.
• The Qatar Investment Authority boosted its stake in Credit Suisse Group AG to 6.87%, according to a filing, becoming the bank’s second largest shareholder.
• ECB President Christine Lagarde said the central bank will do everything necessary to return inflation to its 2% goal, pointing to more “significant” interest-rate increases.
• Closely-followed credit traders Hamza Lemssouguer and Sofiane Gharred guided their hedge funds to gains in 2022 after recovering from double-digit declines earlier in the year.
• Serta Simmons Bedding is seeking bankruptcy protection in an effort to trim its debt load following an earlier out-of-court restructuring.

Asia

• Most Asian markets are closed for the Lunar New Year.
• Holders of additional tier 1 bonds by India’s Yes Bank may receive shares if the Supreme Court upholds a lower Bombay court order that rejected a decision to wirte of 84.15 billion rupees ($1 billion) of the notes, the Economic Times newspaper reports, citing people familiar.
• Australian business conditions, which measure hiring, sales and profits, fell for a third straight month in response to a series of interest rate increases.
• U.S. stocks and junk bonds are not pricing in enough risk of recession in 2023, according to Nicholas Ferres, chief investment officer for Vantage Point Asset Management in Singapore, which outperformed last year thanks to bets on China’s rebound.

Americas

• Demand for bonds backed by portfolios of buyout loans has surged in the last month, signaling that investors are growing less concerned about severe recessions in both the U.S. and Europe.
• Around four companies were selling fresh bonds in the U.S. high-grade primary market on Monday, marking a second straight week of a slow-and-steady daily drip of deals.
• Sales of new asset backed securities kept coming in, with autos leading the charge. (Supply was running lower than at this time last year by about $2.5 billion.)
• The riskiest part of U.S. junk, CCC bonds, was off to the strongest start to a year since 2003 on a total-return basis, with gains so far of 5.1%.

This article was provided by Bloomberg News.