Can you outline the key changes that have occurred in terms of market activity in the US and the macro environment?
The period since mid-January, when the year-end rally started tailing off, has been extremely volatile and - looking ahead for a moment - we think there is more volatility to come. What is particularly striking about first-quarter 2020 market activity is the speed of the sell-off. In the US high-yield bond market, as represented by the ICE BofAML US High Yield Index, it took just 21 days for the average spread to increase from 500 to 1,000 basis points. Compare that to the financial crisis, when it took over 11 months for the same degree of spread widening to occur. So, yes, the sell-off represents the fastest decline ever seen in the US high-yield market. In just five weeks to March 20, 2020, US high-yield retail funds saw cumulative net outflows of US$19.2 billion (according to Lipper estimates) and by March 23, the average spread on the BofAML US High Yield Index (having troughed at 350 basis points in January) had reached 1,082 basis points.
Toward the end of Q1, demand then improved sharply and this continued through April. By April 29, 2020, the spread on ICE BofAML US High Yield Index had narrowed to around 800 basis points over Treasurys. Reasons for the surge include record emergency actions from governments and central banks, and the expansion of the primary market corporate credit facility as well as the secondary market corporate credit facility, which investors expect will be supportive of asset prices in the high-yield market.
Retail and institutional investors alike sought to take advantage of the historically rare entry point into the asset class, coupled with accommodative policy. Cumulative net inflows into US high-yield retail funds during this rebound period equaled the peak outflows that had occurred during the first quarter. Issuers in our market also raced to take advantage of a receptive investor base. Over US$33 billion of new issuance priced since March 23. During the week ending April 24, the market experienced the second-highest weekly issuance volume on record, according to JP Morgan.
The key question is: Now what? Are we out of the woods?
We certainly don't think so. While the actions of the US administration and the US Federal Reserve have been supportive, they cannot - on their own - stop this economic downturn or spur a rebound. Neither can an opportunistic investor base. Inflows into high yield have slowed and an unrelenting primary calendar is also finally showing signs of caution. We believe choppy waters lie ahead…
Risks
Source: Eaton Vance
An imbalance in supply and demand in the income market may result in valuation uncertainties and greater volatility, less liquidity, widening credit spreads and a lack of price transparency in the market. Investments in income securities may be affected by changes in the creditworthiness of the issuer and are subject to the risk of nonpayment of principal and interest. The value of income securities also may decline because of real or perceived concerns about the issuer's ability to make principal and interest payments. As interest rates rise, the value of certain income investments is likely to decline. Investments involving higher risk do not necessarily mean higher return potential. Diversification cannot ensure a profit or eliminate the risk of loss. Debt securities are subject to risks that the issuer will not meet its payment obligations. Low-rated or equivalent unrated debt securities of the type in which a strategy will invest generally offer a higher return than higher-rated debt securities, but also are subject to greater risks that the issuer will default. Unrated bonds are generally regarded as being speculative. Credit ratings measure the quality of a bond based on the issuer's creditworthiness, with ratings ranging from AAA, being the highest, to D, being the lowest based on S&P's measures. Ratings of BBB- or higher by Standard and Poor's or Fitch (Baa3 or higher by Moody's) are considered to be investment-grade quality. Credit ratings are based largely on the ratings agency's analysis at the time of rating. The rating assigned to any particular security is not necessarily a reflection of the issuer's current financial condition and does not necessarily reflect its assessment of the volatility of a security's market value or of the liquidity of an investment in the security. If securities are rated differently by the ratings agencies, the lower rating is applied. Holdings designated as "Not Rated" are not rated by the national rating agencies stated above. Ratings are based on Moody's, S&P or Fitch, as applicable. Ratings, which are subject to change, apply to the creditworthiness of the issuers of the underlying securities and not to the strategy or composite. The impact of the coronavirus on global markets could last for an extended period and could adversely affect the performance of Eaton Vance's high yield strategies.
Sources of all data: Eaton Vance, ICE BofAML Indices, JPMorgan and Lipper. Data is as of May 1, 2020 unless otherwise specified.
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