Corporate Bond Market Has More Room to Recover

Morningstar bond analysts generally hold a balanced view that corporate credit risk will either remain stable or improve slightly

Dave Sekera, CFA 22 October, 2013 | 9:54AM

This article was originally published on Morningstar.com. All bonds mentioned are issued by US corporates meaning the commentary has a bearing on global bond funds.

In our third-quarter corporate credit outlook published Sept. 25, we outlined why we thought corporate credit investors were poised to begin recapturing their losses suffered this summer. Since then, the Morningstar Corporate Bond Index has risen 1.12% and is now down only 1.49% year to date. We continue to think the corporate bond market will recover in the short term. Interest rates are likely to continue to decline due to the Federal Reserve's on-going asset-purchase program, and the demand for corporate bonds will push corporate credit spreads tighter. Fund flows into bond funds have returned, and as the Fed's asset purchases remove Treasury and mortgage-backed bonds from circulation, demand for corporate bonds has improved. Last week, this increased demand helped to reduce the average credit spread in the Morningstar Corporate Bond Index by 5 basis points to 138 over Treasuries.

We continue to believe that from a long-term fundamental perspective, corporate credit spreads are fairly valued in the current trading range. However, over the near term, because of the Fed's quantitative easing program providing a steady flow of liquidity into the markets, we expect corporate credit spreads will probably be pushed to the bottom of this year's trading range. The tightest credit spread in our index reached +129 on May 15. Across Morningstar's coverage universe, our credit analysts generally hold a balanced view that corporate credit risk will either remain stable or improve slightly, but that tightening credit spreads will generally be offset by an increase in idiosyncratic risk such as debt-funded M&A, increased shareholder activism, and so on.

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The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

About Author

Dave Sekera, CFA  is a senior securities analyst with Morningstar.

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