By Sandrine Soubeyran, Global Investment Research, FTSE Russell
2022 has been a volatile year for credit markets, but a closer inspection highlights some striking differences. Let’s take the EM, Euro and US high yield (HY) credit markets* as examples (Chart 1). Yields on EM HY reached much higher levels (close to 14% at its peak), and spiked much faster, than their Euro and US equivalents, which peaked at around 9% in Q4 2022 − a similar yield level for Euro HY, last seen after the initial Covid shock in 2020.
Unlike their EM HY peers, which did rise sharply after Russia invaded Ukraine in February 2022, yields on Euro HY showed little compelling evidence from the Ukraine shock, despite (a) the Eurozone being a substantial energy importer from Russia, and (b) the Eurozone being more exposed to disruption of trade flows, and geopolitical shocks in the region.
An alternative explanation for the differences between Euro and US HY yields in 2022 is the divergence in monetary policy regimes. The US Fed raised rates first in March 2022, just after the Ukraine shock, while the ECB only signalled tightening in June, when yield spreads versus US HY tightened sharply, as Chart 1 shows.
Performance setback in 2022
In return terms though, 2022 translated into one of the worst-performing years for corporate bonds, with double-digit losses mirroring those of equities (Table 1). However, it is also notable that investment grade (IG) corporates were weaker than HY credits, both in the US and Eurozone, unlike EM, where HY credits underperformed IG. This suggests that in 2022, the weak performance of credit could not be explained purely by risk aversion, since HY would have underperformed IG.
Different dynamics from HY for IG peers
For European investment grade credits, however, the dynamics differed somewhat from their sub-IG equivalents. Although they both incurred deep negative losses in 2022 (Table 1), the losses for Euro IG corporates were higher than their sub-IG peers due to their higher duration and closer correlation with rising ECB rates and Bund yields during the risk-on rallies (like in Q4 2022). Also, compared to Euro HY, the more modest initial response to the Ukraine shock from Euro investment grade corporates overall pointed to other factors. (Charts 2 and 3).
The dominant reason for the absence of an initial Ukraine shock in Euro IG corporates may have been the significant policy accommodation by the ECB still in place from the Covid shock. Another important point here was the type of assets purchased under the scheme. They included IG corporate debt (under the corporate sector purchase programme – CSPP) and euro-based public sector debt (public sector purchase programme – PSPP).
This QE kept Euro investment grade corporate bond yields ‘artificially’ stable for the duration of the programme until the end of June 2022. The evidence can be seen in Chart 4, where between February and June, Euro credit spreads rose gently, unlike the steeper jump in yields observed by their sub-IG peers. It was not until June when net APP ended and the ECB became increasingly hawkish, that spreads began to seriously widen.
For more on fixed income and other asset classes, subscribe to the blog.
© 2023 London Stock Exchange Group plc and its applicable group undertakings (the “LSE Group”). The LSE Group includes (1) FTSE International Limited (“FTSE”), (2) Frank Russell Company (“Russell”), (3) FTSE Global Debt Capital Markets Inc. and FTSE Global Debt Capital Markets Limited (together, “FTSE Canada”), (4) FTSE Fixed Income Europe Limited (“FTSE FI Europe”), (5) FTSE Fixed Income LLC (“FTSE FI”), (6) The Yield Book Inc (“YB”) and (7) Beyond Ratings S.A.S. (“BR”). All rights reserved.
FTSE Russell® is a trading name of FTSE, Russell, FTSE Canada, FTSE FI, FTSE FI Europe, YB and BR. “FTSE®”, “Russell®”, “FTSE Russell®”, “FTSE4Good®”, “ICB®”, “The Yield Book®”, “Beyond Ratings®” and all other trademarks and service marks used herein (whether registered or unregistered) are trademarks and/or service marks owned or licensed by the applicable member of the LSE Group or their respective licensors and are owned, or used under licence, by FTSE, Russell, FTSE Canada, FTSE FI, FTSE FI Europe, YB or BR. FTSE International Limited is authorised and regulated by the Financial Conduct Authority as a benchmark administrator.
All information is provided for information purposes only. All information and data contained in this publication is obtained by the LSE Group, from sources believed by it to be accurate and reliable. Because of the possibility of human and mechanical error as well as other factors, however, such information and data is provided "as is" without warranty of any kind. No member of the LSE Group nor their respective directors, officers, employees, partners or licensors make any claim, prediction, warranty or representation whatsoever, expressly or impliedly, either as to the accuracy, timeliness, completeness, merchantability of any information or of results to be obtained from the use of FTSE Russell products, including but not limited to indexes, data and analytics, or the fitness or suitability of the FTSE Russell products for any particular purpose to which they might be put. Any representation of historical data accessible through FTSE Russell products is provided for information purposes only and is not a reliable indicator of future performance.
No responsibility or liability can be accepted by any member of the LSE Group nor their respective directors, officers, employees, partners or licensors for (a) any loss or damage in whole or in part caused by, resulting from, or relating to any error (negligent or otherwise) or other circumstance involved in procuring, collecting, compiling, interpreting, analysing, editing, transcribing, transmitting, communicating or delivering any such information or data or from use of this document or links to this document or (b) any direct, indirect, special, consequential or incidental damages whatsoever, even if any member of the LSE Group is advised in advance of the possibility of such damages, resulting from the use of, or inability to use, such information.
No member of the LSE Group nor their respective directors, officers, employees, partners or licensors provide investment advice and nothing in this document should be taken as constituting financial or investment advice. No member of the LSE Group nor their respective directors, officers, employees, partners or licensors make any representation regarding the advisability of investing in any asset or whether such investment creates any legal or compliance risks for the investor. A decision to invest in any such asset should not be made in reliance on any information herein. Indexes cannot be invested in directly. Inclusion of an asset in an index is not a recommendation to buy, sell or hold that asset nor confirmation that any particular investor may lawfully buy, sell or hold the asset or an index containing the asset. The general information contained in this publication should not be acted upon without obtaining specific legal, tax, and investment advice from a licensed professional.
Past performance is no guarantee of future results. Charts and graphs are provided for illustrative purposes only. Index returns shown may not represent the results of the actual trading of investable assets. Certain returns shown may reflect back-tested performance. All performance presented prior to the index inception date is back-tested performance. Back-tested performance is not actual performance, but is hypothetical. The back-test calculations are based on the same methodology that was in effect when the index was officially launched. However, back-tested data may reflect the application of the index methodology with the benefit of hindsight, and the historic calculations of an index may change from month to month based on revisions to the underlying economic data used in the calculation of the index.
This document may contain forward-looking assessments. These are based upon a number of assumptions concerning future conditions that ultimately may prove to be inaccurate. Such forward-looking assessments are subject to risks and uncertainties and may be affected by various factors that may cause actual results to differ materially. No member of the LSE Group nor their licensors assume any duty to and do not undertake to update forward-looking assessments.
No part of this information may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without prior written permission of the applicable member of the LSE Group. Use and distribution of the LSE Group data requires a licence from FTSE, Russell, FTSE Canada, FTSE FI, FTSE FI Europe, YB, BR and/or their respective licensors.
