Total return approach, investing in below investment grade corporate securities.
Key takeaways
- Risk assets enjoyed a strong first quarter as inflation’s downward trend continued and U.S. economic growth beat expectations.
- For the quarter, the Fund underperformed the Index on a net asset value (NAV) basis.
- The macro outlook remains supportive, as solid economic growth should continue to underpin corporate fundamental factors.
Portfolio Review
Risk assets enjoyed a strong first quarter as U.S. economic growth beat expectations. The S&P 500 Index reached a new high and advanced by 10.56% on a total return basis during the quarter and the Nasdaq Composite had a price return of 9.11%. Credit spreads across corporate, securitized and emerging markets sectors finished broadly tighter. The Federal Open Market Committee voted to hold interest rates steady for the fifth consecutive time at its March meeting. However, markets converged with the U.S. Federal Reserve’s guidance on the timing of the first rate cut as the disinflation dynamic that characterized 2023 lost momentum, suggesting a growing consensus on the future direction of monetary policy and a rejection of a more significant pivot that was priced at the start of the year.
High yield spreads closed out the quarter 24 basis points (bp) tighter to an option- adjusted spread (OAS) of 299 bp. The move in spreads fully absorbed a selloff in rates, as the Bloomberg High Yield 2% Issuer Cap Index (Index) produced a positive total return of 1.47%. Spreads were supported by strong demand for the asset class given attractive yields despite an uptick in new-issue supply from the prior quarter. From a credit quality perspective, lower-rated bonds outpaced higher quality, as BB, B and CCC rated securities returned 1.13%, 1.36% and 2.14%, respectively.
For the quarter, the Fund underperformed the Index on a NAV basis. Contributors were largely event-driven, as bonds of Burger King franchisee Carrol’s Restaurant Group and building products distributor SRS Distribution traded higher when those companies agreed to be acquired. Detractors for the quarter included packaging company Ardagh, which posted weak earnings that heightened concerns about a potential debt restructuring, and a handful of names in the Media space (including Gray Television, AMC Networks, DISH Network and Altice US) as the market continues to come to terms with rapidly changing dynamics within the media and entertainment industry.
Current Strategy and Outlook
The macro outlook remains supportive, as solid economic growth should continue to underpin corporate fundamental factors. While the Fed’s hiking cycle is done, the first rate cut remains a source of debate. With inflation surprising to the upside recently, along with continued strength in economic data, the Fed’s case to remain patient on rate cuts has been bolstered. However, their data-dependent stance will provide flexibility in adjusting policy measures in response to evolving economic conditions, ensuring a balanced approach to supporting economic growth while addressing inflation concerns. Market technical factors in high yield remain favorable as supply has continued to underwhelm, while demand has been supported by attractive all-in yields and strong equity market performance. However, spreads remain at tight levels, skewing outcomes negatively in the event of any surprises.
In sector positioning, we remain positive on the healthcare space given higher utilization rates and easing labor cost, and the energy sector which continues to benefit from firm commodity prices. However, we are less constructive on global cyclicals as a whole given still muted recovery from China and Europe. Furthermore, we maintain a cautious stance in industries that continue to face secular challenges, such as media and cable. From a ratings perspective, we are slightly overweight to B-rated bonds, while modestly underweight in BB and CCC rated securities. Single-name risk continues to be a key focus of ours, as dispersion remains elevated.
Key Takeaways
Risk assets enjoyed a strong first quarter as inflation’s downward trend continued and U.S. economic growth beat expectations.
For the quarter, the Fund underperformed the Index on a net asset value (NAV) basis.
The macro outlook remains supportive, as solid economic growth should continue to underpin corporate fundamental factors.