Corporate bonds in the automobile and telecommunication industries have been performing positiv...
Corporate bonds in the automobile and telecommunication industries have been performing positively both in the US and Europe. These sectors have been restructuring and investors have been buying debt issues in these types of companies.
Andy Evans, head of credit research at Insight Investment, says: 'If you look at what is happening throughout the course of the year, companies have been repairing their balance sheets.
'The bond experiences of the last 18 months such as Enron and Worldcom have had a significant impact on confidence in corporates and risk assets in the environment. There have been a large amount of corporate bankruptcies occurring.'
Evans sees that confidence is now returning to the market and there has been a change in investor perception as risk premiums come down and credit spreads tighten.
The best performing sectors in the US and Europe are the ones that have been the most volatile such as the automobile and telecoms industries. Both of these industries are benefiting from improving fundamentals as their balance sheets come back to order.
According to Alix Stewart, investment director of corporate bonds at Standard Life Investment, both automobile and telecommunications are low rated corporate bonds and have a higher yield than others. Although these are riskier names investors have been prepared to buy them because of this.
For example, Ford has been strong because of concerns about the automobile industry in general and the restructuring of its balance sheets. Investors have been prepared to buy this company despite its problems.
At the moment investors are taking a chance to get higher yields. In Europe investment grade high yields for corporate bonds are around 3.485% and in the US they are around 3.96%.
Stewart says: 'European corporate bonds in these areas have been very strong. The cuts in interest rates have left investors looking for higher yield. Government yields are low so people have been investing in corporate bonds. The picture is similar in the US. The two markets have been working in tandem.
'The fundamentals are still strong in the US as the Fed has cut interest rates. It is no longer ideal for investors to put cash into the money markets as it is not giving them a good return but are rather putting it into corporate bonds.'
Although Evans thinks investor psychology is the same in Europe as it is in the US, he expects European credit markets to struggle as opposed to the US. The fundamental financial health of companies in Europe is not as good as in the US. There are also concerns spreads will consolidate.
Similarly, Stewart also sees all the fundamental improvements for companies are in the US. Companies in Europe still remain in debt and have been getting downgraded. In Europe the outlook is still a lot worse than the US.
Stewart also believes at some point there will be dislocation in the market between Europe and the US.
According to Evans, the US market is perceived to be closer to recovery than Europe. But, there are also a large number of issuers of corporate bonds in the US that are also based in Europe. These transactions from the US have flown through to Europe. This has especially been felt in the automobile industry.
Evans says: 'The problem in Europe and the US is not the same. The European economy has potential to diverge more sharply. For example, the German economy has a deflation problem. There is a fairly clear divergence in corporate earnings from the US and Europe. Europe has lower earnings growth than the US.'
He also thinks the telecoms industry is running out of steam as everyone has been overweight. Companies have reduced debt and improved balance sheets and now the sector is fairly valued and will not go up much higher. He feels investors should take profits out of the sector.
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