Spreads on emerging market and sub-investment grade bonds have widened on the back of concerns about...
Spreads on emerging market and sub-investment grade bonds have widened on the back of concerns about the global economy.
Against a backdrop of falling equity prices and earnings downgrades, investors' appetite for risk remains low, pushing up yields on riskier asset classes.
Julian Adams, fixed interest fund manager at Aberdeen Asset Management, says concerns about the US economy have increased yields on emerging market debt to attractive levels.
He says: 'Emerging markets bonds are trading at 120 basis points wider than beforehand. The index is now yielding about 1000 basis points over Treasuries, which is about a 15% yield.'
Although spreads were widening before the events of 11 September, these economic trends have been exacerbated by the reaction to the attacks, he says.
Adams expects the cycle of recession and recovery to be accelerated by the size and extent of the fiscal stimulus package being injected into the US and that this will ripple out into emerging markets.
As a result, he is anticipating a V-shaped recovery for the US and broader global economy and has positioned the fund to reflect that.
He says: 'We have reduced our exposure to credits which need capital market access, such as Brazil, Turkey and the Philippines.'
Countries that require reasonable levels of economic growth to be able to maintain their debt to GDP ratios represent a similar risk in the short term, making longer-dated issuance more attractive.
Asia excluding Japan has suffered worse than most, Adams adds, as overcapacity and shrinking margins in the technology sector continue to inhibit growth in the likes of Pakistan and Taiwan.
Adams also remains underweight in Argentina. The stricken Latin American behemoth is due to undergo elections in a couple of weeks, which could inspire some hope in the longer term but shorter term the economy looks very sickly.
The events of 11 September have also widened spreads on the domestic and European sub-investment grade bond market, given its sensitivity to the macro outlook.
Richard Woolnough, manager of the Old Mutual Corporate Bond Fund, says those companies with high levels of gearing are among the worst hit in the market, both in terms of bond and equity performance.
'If you look at the default history, it is very high for high yield and you will find the number will go up in times of recession,' he says.
The economic sensitivity of the high yield sector has been demonstrated by the problems of stricken airline Swiss Air. The bond prices have fallen dramatically as the airline's existing problems have been compounded by the slowdown in air travel.
Woolnough says: 'In high yield, by definition falling revenues can lead to companies breaking bank covenants. Swiss Air was in difficulty before 11 September and now the bonds are going into default.'
While airlines have been hit recently, telecoms and industrials have been underperforming throughout the calendar year, as companies have to deal with overcapacity and shrinking revenues, he adds.
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