First half of the year saw global credit markets in a relatively sanguine mood. However, credit investors generally shrugged off March's US regional banking crisis and May's debt ceiling showdown in the US. Credit spreads ended the first half of the year tighter.

US Treasury curve bear flattened over the June with the 2Y rising 49 bp to 4.90% and the 10Y rising 19 bp to 3.84%. The key driver of the flattener was Fed terminal rate pricing moving higher to 5.4%, backed by strong US economic data and relatively hawkish commentary by the US Fed. The 1Q23 US GDP figure was revised upward to +2% from +1.3%, driven by exports and consumer spending on durable goods. In the meantime, market data continues to show bifurcation of the US economy with the ISM Manufacturing PMI in contraction and manufacturing payrolls falling in May, while the Services PMI remains expansionary. As for inflation, the general trend appears to be easing off. May's PCE print reported broadly in line with street’s consensus estimate, with a notable downshift from the previous month. The general assessment is that while a pause in US rate hike is not yet a done deal, neither is US inflation expected to be running wildly away. Having a scenario case of higher rates for longer augurs well for credit investors.

Given the backdrop of a relatively constructive US macro condition, we believe it is time for investors to start raising their investment allocation to corporate credits, especially for high-quality investment-grade bonds. US IG and HY credit spreads tightened in June by 12bp and 64bp, respectively. Monthly spread volatility was relatively stable. The higher US Treasury yields and narrower credit spreads drove positive total and excess returns across the board for this asset class.

In the IG market, the ‘risk-on’ sentiment prompted credit investors to reach for the lower rating spectrum, leading to outperformance among the lower-BBB rated tranches. BBBs tightened by 15bp while As, AAs, and AAAs followed, tightening by 9 bp, 6 bp and 3 bp, respectively. Credit spreads tightened across the curve with the belly of the curve outperforming the most (12-15 bp). The long-end spreads narrowed by 11 bp while the front-end tightened by 8 bp.

Financials/banking bonds outperformed among the industry sectors, with the largest spread tightening over the June, as the market continues to reprice risk in the US financial sector following the regional banking crisis started in March.

We believe it is time for investors to increase allocation to quality investment-grade corporate bonds given the current attractive carry.

30 Jun 2023