News & analysis
Fallen angels on the horizon
Loose monetary policy has caused the rapid growth of the investment- grade corporate bond market, but as recession fears mount, a record num- ber of bonds are at risk of being downgraded.
In Abrahamic religions, the term “fallen angels” is attributed to messengers of God who have committed sin and were cast out of heaven. They were consid- ered dangerous because they could incite humans to commit sins. In the much more mundane world of global bond markets, the term “fallen angel” refers to bonds which were previously investment grade but have now been downgraded to junk. As the outlook for the global economy deteriorates, a growing number of credit strategists warn that some of the angelic looking investment-grade bonds might soon turn into fallen angels, having tempted investors to invest in assets that might well be riskier than anticipated.
Hedge fund investors are betting on the wrong horse
Despite the uptake in volatility, global hedge funds con- tinue to book out-flows as investors appear to struggle when identifying successful hedge fund strategies. It’s been a rough year for hedge funds as investors have withdrawn some $63.6bn (£58bn) since the beginning of the year, according to eVestments. Weak
performance throughout the summer also
dragged down the total volume of assets held by the industry, year to date, assets fell to $3.25trn (£2.97trn). Interestingly some of the most popular strategies are now showing a performance turnaround. For example, event driven strategies have so far had a good year, they performed above 8% and attracted the biggest inflows of $13.2bn (£12.1bn) in the year to date. But in August they also had some of the weakest performance figures of -1.56%, according to Preqin.
And while investors withdrew some $6.2bn (£5.6bn) from macro hedge funds in August alone, they ended up performing relatively well that month at +2.51%. European hedge funds saw the strongest level of out- flows, at $32.6bn (£29.7bn) in the year to date.
Corporate bond market risks were on the agenda at Legal & General Invest- ment Management’s (LGIM) annual institutional investment conference, with the gap between investor perception and market data highlighting precisely how underestimated the problem might be.
Only a mere 3% of investors participating at the event thought that corporate bond risk constituted the biggest risk to markets but Madeleine King, LGIM’s co-head of pan-European investment grade research, warns that some $460bn (£369bn) worth of investment grade bonds are at risk of being downgraded if the economy turns sour, an unprecedented figure.
King warns that even a best-case scenario, whereby loose monetary policy con- tinued, could represent challenge as companies are keen to take on more debt and sacrifice credit ratings. “A failure to absorb this debt would lead to a liquid- ity crisis for corporate borrowers,” she stresses.
This chimes with earlier warnings by the Organisation for Economic Co-oper- ation & Development, which said in February that the corporate bond market has doubled over the past 10 years and some $500bn (£401bn) of corporate bonds are at risk of a downgrade. One example is Ford. Rating agency Moody’s announced in September that it had downgraded the car giant’s debt to junk levels, sending jitters across the corporate bond market. If other rating agencies followed suit, Ford might be kicked out of investment grade indices and subsequently weigh on prices for high yield bonds.
This is reminiscent of the challenges corporate bond investors faced in 2005, when Ford and General Motors’ debt was downgraded to junk, causing high- yield credit spreads to widen by 50 points.
6 | portfolio institutional | October 2019 | issue 87
FTSE 350 pension scheme deficit data highlights volatility
On the face of it there was some good news for the 350 largest listed companies in the UK, their defined bene- fit (DB) pension scheme deficits fell by £17bn between August and September, according to Mercer’s latest Pensions Risk Survey data. The boost was driven by a combination of falling liabil- ity values and rising asset values. Liabilities values fell by £8bn to £906bn, while asset values climbed by £9bn to £856bn. But values also showed stark levels of fluctuation throughout that same period. Deficit values, for exam- ple, jumped to around £25bn while liabilities varied by up to £45bn throughout the same period. Mercer actuary Charles Cowling warns: “Trustees that have not fully hedged their interest rate risks could see pension deficits soar. “In such difficult times, trustees should think carefully about running any interest rate risks,” he added. “Indeed, those that are not fully hedged against falls in interest rates are effectively thinking that they know bet- ter than the markets – and thus putting pension scheme funds at risk.”
Page 1 |
Page 2 |
Page 3 |
Page 4 |
Page 5 |
Page 6 |
Page 7 |
Page 8 |
Page 9 |
Page 10 |
Page 11 |
Page 12 |
Page 13 |
Page 14 |
Page 15 |
Page 16 |
Page 17 |
Page 18 |
Page 19 |
Page 20 |
Page 21 |
Page 22 |
Page 23 |
Page 24 |
Page 25 |
Page 26 |
Page 27 |
Page 28 |
Page 29 |
Page 30 |
Page 31 |
Page 32 |
Page 33 |
Page 34 |
Page 35 |
Page 36 |
Page 37 |
Page 38 |
Page 39 |
Page 40 |
Page 41 |
Page 42 |
Page 43 |
Page 44 |
Page 45 |
Page 46 |
Page 47 |
Page 48 |
Page 49 |
Page 50 |
Page 51 |
Page 52
