Source: Bloomberg, ICE Bank of America Indices 30 September 2023. Information is subject to change is not a guarantee of future results.
Global HY FRN: ICE BoA Global High Yield Floating Rate Loan (3% Constrained) Index. Europe HY: ICE BoA European High Yield Index. Global HY: ICE BoA Global High Yield Index. US HY: ICE BoA US High Yield Index.
Capital protection versus potential default cycle
High yield corporate issuer fundamentals have, so far, held up reasonably well. This is largely thanks to buoyant consumption and pre-emptive corporate refinancings that have enabled issuers to lengthen their maturity profile at attractive rates.
Nevertheless, as developed economies slow and the impact of higher interest rates starts biting into corporate balance sheets, we would expect to see an uptick in default rates.
Our base case scenario remains that of a mild default cycle (this would result in a global default rate of c. 3-4%, in our view) which would be consistent with a soft landing. In our view, this would not be too damaging for the corporate sector. However, should default rates increase more aggressively, the fact that HY FRNs are typically categorised as senior-secured in the capital structure can help mitigate capital downside.
Since the start of the hiking cycle in 2022, the M&G (Lux) Global Floating Rate High Yield Fund has outperformed the major fixed income asset classes, with returns above 10%. The fund has delivered strong performance year-to-date too (over 10% in USD, 8.7% in EUR as at the end of September).
The fund is positioned to seek to generate returns through a combination of carry, improving market technicals (which in our view should prove positive for spreads) and defensive active views.
From a sector perspective, we maintain our focus on more defensive and less cyclical parts of the market, such as food producers and distributors, and software and/or online business companies. Conversely, we maintain zero exposure to banking and real estate.
With attention turning to the likelihood of impending recession, fundamental credit research will prove critical to capital preservation. In our view, our highly experienced team of fund managers and credit analysts are well placed to demonstrate the value that active management can deliver in such an environment.
M&G (Lux) Global Floating Rate High Yield Fund
The fund aims to provide a combination of capital growth and income to deliver a return that is higher than that of the global floating rate high yield bond market -- as measured by the BofA Merrill Lynch Global Floating Rate High Yield Index (3% constrained) USD Hedged -- over any five-year period. At least 70% of the fund is invested in high yield floating rate notes (FRNs), focusing on FRNs issued by companies with a low credit rating, which typically pay higher levels of interest to compensate investors for the greater risk of default. Part of the fund may be invested in other fixed income assets, such as government bonds. Asset exposure is gained through physical holdings and the use of derivatives.
Past performance is not a guide to future performance.