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Ladies and Gentlemen and distinguished collies*, even though my primary use of this platform has been to clown on leveraged credit, I actually put on my macro hat today, and had some thoughts.
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Please keep in mind for this thread:
1. I'm unemployed and not as wired in as I'd like
2. Don't have a BBG
3. I really like IASIP, all * are IASIP references not my terrible grammar
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1. I'm unemployed and not as wired in as I'd like
2. Don't have a BBG
3. I really like IASIP, all * are IASIP references not my terrible grammar
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Given headlines, sentiment of credit investors on FinTwit, and yields on new issuance, I think tourists to our world (read: equities, journalists) think the world is about to end and we’re about to hit another credit downturn
3/? https://www.bloomberg.com/news/articles/2021-02-08/u-s-junk-bond-yields-drop-below-4-for-the-first-time-ever?sref=IYaVtzGj
3/? https://www.bloomberg.com/news/articles/2021-02-08/u-s-junk-bond-yields-drop-below-4-for-the-first-time-ever?sref=IYaVtzGj
I wanted to put on my Byron Wien/Charlie Kelly hat and make the case "Leveraged credit returns will be fine in 2021, stop whining and buy some liquid credit beta." Not fully sure if I buy this, but let's f- around and find out.
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An aside, but I don't think anyone has ever said "Byron Wien/Charlie Kelly hat"
Alright, for the persecution*. "Yields are sub 4%!" Yeah, but that's mostly due to rates. Please see this graph from JPM to illustrate - you might have to squint, but point being, spreads at absolute levels look pretty fine! Tight for sure, but not quite at all-time-lows.
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Alright, so how tight are we? Illustrative (different index from JPM) from MS is HY spreads at 360 bps vs 233 bps historic tights pre-crisis in '07
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With 130 bps of tightening potential for HY (for starters) at a modified duration of 5, back of envelope we've got 650 bps of spread-tightening return on top of a 5-6% coupon for the index. Not bad!
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Now of course, everyone has been complaining about new issue quality. I wasn't looking at high-yield in '07, but there are some crude ways I can compare then and now
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Composition of the HY universe is much more BB than it used to be. Of course credit ratings are backwards looking as a tool, but one of the few indicators I have off the shelf
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Uses of proceeds? Same deal - it's not stupid aggressive until the PE sponsors come in IMHO.
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I could grab similar charts reflecting similar trends in leveraged loans, but it is tougher to find an apples-to-apples there given the development of the leveraged loan market was largely early-to-mid 2010s and I probably shouldn't snip so many charts from MS
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I think I've cast enough reasonable doubt on the idea of "we're overly stretched in credit based on valuation to get to a good return". I think I've painted a perfectly reasonable scenario where you get a HSD return
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When I've looked at the history of the credit markets, stupid excessive lending is never the actual trigger for markets puking up. It's the exogenous shocks - oil prices, housing crisis, China/Greece, COVID, etc.
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These days, I view HY as a TINA asset for yield for better or worse, and there's not an obvious catalyst for a selloff. Of course that is the way these things typically work.
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But here's the bet I think I'd make: if you have a catalyst in mind to cause credit to puke, I'm all ears. But otherwise, you're going to get your perfectly acceptable HSD return which is roughly in line with HY returns over the past decade
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Now does it feel worse than usual? Yeah. Do you want to buy '21 new issue and hold to maturity/call? Probably not. But I feel I could talk myself into holding liquid bonds/CDX.HY or something until the EOY as a trade.
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Do you want to own the riskiest parts of the HY market? Probably not, that feels reachy (although has a nice coupon)
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You want to go after B issuers for a spread compression trade? I mean we're sitting around the 20-year median, it's not that toppy there it seems
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I suppose my broader takeaway is this: credit cycles can drag on a lot longer than you'd think. Look at when this comic was drawn - a full year and change before the actual crisis. This can drag on.
19/ https://twitter.com/milken_cookies/status/1359331930412486656
19/ https://twitter.com/milken_cookies/status/1359331930412486656
I'm getting tired and want to end it here, but credit is probably going to get more bloated and rich-looking imho. So stop whining, underwrite some returns you're not thrilled with in the secondary market, and stay on your toes.
/fin
/fin
