October 2023: Outlook and Implementation
► October was eventful due to a Fed meeting and press conference, economic data releases, company earnings announcements, growing acceptance of a higher-for-longer rate regime, and unsettling geopolitical events.
► Despite the risk-off tone, loans managed to post only a -0.02% loss for the month. Loans were not immune to the volatility – loan market prices were down -0.81% in October, but the coupon generated 0.79% of return, allowing for near-flat performance in a month that saw high yield down -1.25%, investment grade corporates down -1.94%, equities down -2.10%, and even Treasuries (10-year index) down -2.26%.
► Still, October was the first negative month since May 2023 (-0.18%).
► After the Fed kept rates unchanged for the second straight meeting and held a perceived dovish press conference, risk rallied late in the month and into November.
► The year-to-date total return is 10.14% – on pace for the best return year since the Great Financial Crisis (GFC), and on pace with our forecast.
► In a risk-off environment, quality (BBB up 0.61% and BB up 0.37%) outperformed risk (B down -0.07% and below B- down -1.07%).
► Investors can be constructive on the loan market without being overly bullish on fundamentals, as the current yield profile provides a cushion against volatility – October is a good example of this.
► The growing narrative supporting a soft landing, the high current coupon, and spreads wide of non-recession historic averages make loan valuations still attractive. Even assuming a return to historical long-term default rates, lower-than-average principal recovery rates, and eventual rate cuts, the current jumping-off yield appears adequate enough to result in a net positive outcome over the next twelve months.
