Man GLG’s Views on Global High Yield: Value Emerging After a Tough H1 2022

After suffering the worst start to a year since the inception of HY indices, we are starting to find better value within global high yield. It remains a stock pickers' market and we remain cautious on broad swathes of the market, but we believe that current valuations are starting to look attractive relative to history.

 

Recorded on 07 July 2022.

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Episode Transcript

Note: This transcription was generated using a combination of speech recognition software and human transcribers and may contain errors. As a part of this process, this transcript has also been edited for clarity.

Sriram Reddy (00:05):

Welcome to our quarterly update on the high-yield market. I'm pleased to be joined today by Mike Scott, who's the Head of High Yield and Credit Opportunities here at Man GLG. Today, we wanted to run through some of the nuances that we're seeing within the high-yield market and provide our assessment of potential opportunities that we see in the current moment.

Sriram Reddy (00:25):

When we take a first step and look at the market backdrop, it's clearly been a very challenging time for the high-yield bond market. If you looked at the past returns, the first half of this year has been the worst period, the worst start of the year for the high-yield bond market in many parts of credit since the start of indices back in the late 1990s. So with that as a very positive backdrop, Mike, I wanted to turn it over to you and get a sense from you on what are the fundamentals showing for the high-yield bond market.

Mike Scott (00:55):

That's a great question. I think in terms of where we see the credit cycle, we are certainly late in the day with respect to how far through we are in the credit cycle, and much as that is being driven by inflationary pressures, which have certainly become acute over the past 12 to 18 months when this first started to build, alongside tightening monetary policy from the central banks and growth that really peaked in the first half of '21.

Mike Scott (01:27):

So this was always going to be a shorter and hotter cycle in our view, very much driven by the size of stimulus that was enacted during and post COVID. But as we have gone through this year, we've seen significant accentuation to those existing trends, really driven by the Eastern European issues with respect to Ukraine and the knocking impacts into the oil and gas markets in particular.

Mike Scott (02:05):

So we certainly do see that inflationary pressures are problematic for high-yield credits, certainly those that have weak pricing power, or have a relatively commoditized product that they sell. And alongside margin pressures, we do think that demand pressures are starting to increase as we see growth starting to turn down. So from our perspective, triple Cs in particular is starting to reprice and that we think can continue into the second half of this year. And indeed, we certainly have a favor. We favor towards the mid to upper echelons of the market. And that's something that we've been very focused on for the past 12 months now, and in the mid to upper echelons of the market, too.

Sriram Reddy (02:55):

Great. Thanks Mike. So you mentioned late cycle in terms of fundamentals, are you seeing late cycles in terms of valuations as well?

Mike Scott (03:02):

Well, valuations are certainly getting much more attractive on a long-term basis. From a historical perspective, spreads are now moving into their upper quartile, and typically this is usually associated with the late cycle conditions. From a positive perspective, the credit market is starting to, or has already quite priced in to some degree, the weaker fundamental backdrop that we see today. But certainly for the weaker parts of the market, we do see that there could be further pressure as we go through the second half of the year.

Sriram Reddy (03:41):

Great. And then regionally, are you seeing differences? You mentioned some of the pressures coming from Eastern Europe impacting Europe. Is that being seen in credit spreads?

Mike Scott (03:49):

Yeah, absolutely. And we've seen in aggregate an underperformance of the European market relative to the US. Part of that was accelerated, let's say, by the events in Ukraine earlier on in the year. In our mind, this is actually providing attractive opportunities for the European market. Many of these businesses are actually rather non-cyclical, they have strong cash generation potential. And typically the European market is much more single B and double B focused than, say, the US. The US is actually much more of a cyclical market, much more focused on commodity-based issuers, leisure, retail, so on and so forth. So we have seen European aggregate cheapen relative to the US where we actually think that this is an interesting relative value opportunity for us, and is certainly a much bigger focus for us today, relative to the US.

Sriram Reddy (04:49):

Great. And so with that backdrop, I guess you would expect cyclical risk or those more geared to the economic cycle to be underperforming on a sector basis. Has that been happening?

Mike Scott (04:59):

Interestingly, we haven't seen enough dispersion yet in our view to date. What we have seen in the first half has really been a parallel shift in valuations. And there hasn't been enough discrimination, I would say between non-cyclical and cyclical risk, for instance. The margin, that is starting to occur, but we think that it has further legs to run as we go through the second half this year. And really it's a very easy relative early decision for us, where we are finding unique relative value opportunities in the non-cyclical space, which are trading at similar spreads to their cyclical counterparts. And, for us, that makes very interesting relative value within the fund.

Sriram Reddy (05:54):

Thanks, Mike. So just to conclude, we wanted to show the historic returns of the high-yield bond market based on various starting points for option-adjusted spread. Currently we're at 675 basis points and based on historic return patterns, that has delivered a return of 10.6%. Now this will adjust depending on where you are in terms of spreads, but it is an interesting characteristic for the asset class. Thanks very much. And we look forward to speaking to you next quarter.

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