Credit spread change across regions

monitoring spread compression

Which credit spreads are doing better?

Focusing on: last week

IG spreads overperformed high yield across regions

In more detail, by rating group:

• in investment grade: US spreads overperformed the other regions only by -1 bps while EM spreads underperformed the pack
• in high yield: EU spreads overperformed the other regions only by 10 bps

and by region:

• in Europe: EU investment grade spreads moved slightly lower than high yield by 1 bps
• in US: US investment grade spreads moved slightly lower than high yield by -1 bps
• in emerging markets: EM investment grade spreads moved slightly lower than high yield by 8 bps

IntroCorporate bond yields represent the return an investor can expect from holding a corporate bond over time, and are expressed as an annual percentage. Such yield is composed of two parts: (1) the yield offered by a comparable government bond issued in the same geography as the corporate issuer plus, and (2) a credit spread, reflecting the extra yield investors demand for holding a corporate bond, which carries a higher risk of default compared to a government bond from the same country/region.

Risk freeA risk-free bond is a bond that repays interest and principal with absolute certainty and no risk of ever defaulting. Its rate of return would be the risk-free interest rate. In such an investment, investors experience no risk by investing in such an asset.

In practice, government bonds of financially stable countries are treated as risk-free bonds, as governments can raise taxes or indeed print money to repay their domestic currency debt. Germany and the US have been widely considered to date as examples of risk-.free bonds in their respective regions.

Chart guideIn the chart above we monitor the relative performance of corporate bond indices in the EU, US and emerging markets - both for higher quality companies (investment grade) and lower quality companies with higher likelihood of default in the future (high yield). Subject to the selected performance timeframe, such chart is a useful guide to see which regional corporate bonds are overperforming (or not) and which rating band is doing better.

Market implicationsWe can draw two different conclusions here. First, we can see if spreads are compressing faster in EU, US or emerging markets subject to macroeconomic dynamics and investors ' sentiment.

Second, we can observe if investors have preferred higher risk bonds (high yield, or HY), a proxy of enthusiasm for the current market environment, or have preferred safer investment ghrade credit quality (being mindful that investment grade bonds carry more duration, or higher sensitivity to interest rates, and could thus be less in vogue in case of rate hikes).