The slowing debt cycle, tighter credit spreads and reduced central bank support had already enticed us to take a rather cautious view on the corporate bond universe. There has, however, been some additional deterioration in fundamentals in the US investment-grade credit segment, as leverage levels remain relatively high (indeed, higher than Euro Investment Grade for the first time in 10 years). Furthermore, the credit quality of the US Investment Grade segment also continues to deteriorate, leading to a preference for Euro Investment Grade, whose ratings are improving.
We favour the financial sector, which is undergoing a deleveraging phase as we trudge towards banking union in Europe and appears to be attractive both in terms of valuations and of fundamentals. Banks’ asset quality and liquidity have improved as they continue to clean up their balance sheets and focus on cost reduction. Furthermore, steeper curves in the Eurozone will enhance banks’ earnings (higher margin, market volumes) and the revenue picture for banks should continue to improve in 2018. However, the segment has already seen a strong performance over the past few years that is unlikely to be as good in the future. As a result, it is vital to be selective, carry out rigorous research and employ a cross-capital structural approach in order to cherry-pick the juiciest parts of the investment universe and avoid pitfalls.