Where are the opportunities in high yield?
Several factors have combined to give strong impetus to emerging economies and markets, presenting a strong case for high yield credit.
27 October 2017
A strong run for high yield corporate bonds over the last year has meant buying opportunities have become scarcer.
There are opportunities in the US, as we explain in the video above, but another section of the market that continues to command attention, is emerging market (EM) debt.
According to our analysis of the economic cycle, several emerging economies are entering an acceleration phase. This ought to be the period at which we could see the best returns from high yield EM corporate bonds as defaults have peaked and should start to fall.
As well as healthier levels of global trade helping to boost the growth of emerging economies, there have been domestic improvements. Some of the most notable changes have arrived on the political front, with regime changes followed up by reform.
Where the opportunities lie
The economic backdrop is therefore favourable, but positive fundamental dynamics are also very supportive. Yields in the emerging market space look very attractive relative to comparable businesses in developed markets.
Brazil looks particularly buoyant according to our model. Its terms of trade have improved markedly, a more market-friendly regime is enacting reforms and, importantly, there is also quite a strong disinflationary trend.
Disinflation is especially pertinent for interest rate-sensitive assets and has become a potent force in a number of emerging economies. Brazil’s annualised rate of consumer price inflation has declined from 9.0% in August 2016 – the last month in which inflation rose in Brazil – to 2.5% in September 2017. The central bank has reduced its policy rate from 14% last October, to 8.25% in September. The Brazilian Central Bank still has significant room to ease policy, which should support economic fundamentals going forward.
Russia has seen a similarly strong deflationary trend. From a current-cycle peak of 16.9%, reached in March 2015, inflation has come down to 3.0% in September 2017. The central bank has cut interest rates from 17% in December 2014, to a current level of 8.25%.
Argentina’s sovereign bonds are also attractive. The country is on a positive trajectory following the election of the more market-friendly President Macri in 2015 and has seen a significant bounce in construction activity and industrial production. We also like other Latin American sovereign bonds such as those of Ecuador.
In terms of sectors, energy companies, particularly in Latin America, are a significant source of opportunity, but we also hold banks, media and food companies.
 A speculative bond with a credit rating below investment grade. Generally, the higher the risk of default by the bond issuer, the greater the interest or coupon.
Important Information: This communication is marketing material. The views and opinions contained herein are those of the author(s) on this page, and may not necessarily represent views expressed or reflected in other Schroders communications, strategies or funds. This material is intended to be for information purposes only and is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. It is not intended to provide and should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this document when taking individual investment and/or strategic decisions. Past performance is not a reliable indicator of future results. The value of an investment can go down as well as up and is not guaranteed. All investments involve risks including the risk of possible loss of principal. Information herein is believed to be reliable but Schroders does not warrant its completeness or accuracy. Some information quoted was obtained from external sources we consider to be reliable. No responsibility can be accepted for errors of fact obtained from third parties, and this data may change with market conditions. This does not exclude any duty or liability that Schroders has to its customers under any regulatory system. Regions/ sectors shown for illustrative purposes only and should not be viewed as a recommendation to buy/sell. The opinions in this material include some forecasted views. We believe we are basing our expectations and beliefs on reasonable assumptions within the bounds of what we currently know. However, there is no guarantee than any forecasts or opinions will be realised. These views and opinions may change. To the extent that you are in North America, this content is issued by Schroder Investment Management North America Inc., an indirect wholly owned subsidiary of Schroders plc and SEC registered adviser providing asset management products and services to clients in the US and Canada. For all other users, this content is issued by Schroder Investment Management Limited, 1 London Wall Place, London EC2Y 5AU. Registered No. 1893220 England. Authorised and regulated by the Financial Conduct Authority.