Monetary policy divergence could see European credit and emerging market debt becoming relatively attractive, given their clearer path to lower rates, according to Janus Henderson’s quarterly Credit Risk Monitor.
Overall, credit spreads tightened and strong investor appetite supported issuance in Q1 despite scaled back expectations of interest rate cuts in the US.
In the first quarter, investors focused on the positive impact of stronger-than-expected US growth and employment data in the US and stabilising growth and lower-than-expected inflation in Europe.
Credit markets benefited from spread tightening and mostly positive total returns in the quarter.
Janus Henderson noted that credit spread tightening helped to absorb some of the upward pressure on yields caused by markets scaling back forecasts for US Federal Reserve interest rate cuts for 2024, from six cuts to two, due to sticky US inflation.
Jim Cielinski, Janus Henderson global head of fixed income, said: “We foresee the possibility of further spread tightening but accompanied by rates volatility if strong US growth causes supply-led disinflation to evolve into demand-led inflation. At this point in the cycle, we expect greater return dispersion within sectors. Issuer selection will be even more critical at this juncture.”
See also: Robeco hires EMD trio from Candriam
Monetary policy divergence
The report also noted that central monetary policy divergence will have implications for yield levels in different regions, particularly as spread tightening momentum slows.
In Q1, the Swiss National Bank cut interest rates alongside several EM central banks. Meanwhile, expectations have grown for the European Central Bank to begin cutting interest rates ahead of the Fed.
Looking ahead, Cielinski added: “As we get to more expensive valuations and later in the cycle, we think it makes sense to look globally to economies that either have a friendlier policy or growth backdrop.
“We see Europe as relatively attractive, given a clearer path to lower rates, while emerging market debt also looks attractive given the scope for further monetary policy easing.
“We continue to like securitised credit, especially in the mortgage space, while in corporate credit, banks look to be in good shape for this stage in the cycle and real estate is exhibiting better access to capital.
“The risk is that supply-led disinflation shifts towards demand-led inflation, creating further rates volatility and a bumpier credit cycle.”
