European credit markets, most notably Investment Grade corporates and sovereign bonds, have had a remarkable run so far in 2015, but so have their equity counterparts which surged ever since Mario Draghi officially announced the ECB’s QE program on January 22.

But now that we are in our third week of actual asset purchases, how have yields fared and what’s the short term outlook?

We are in the midst of European earnings season, and we have had a handful of macroeconomic releases (and are due even more) which are giving investors a clearer picture on the health of the global economic recovery, with notably the PMI indices in the Eurozone and CPI and GDP figures in the US.

In the absence of central bank meetings and key rate decisions, we expect markets to continue be driven by the ECB’s QE program; sovereign bond yields are expected to continue their downward trajectory, thereby increasing the spread between sovereigns and corporates, rendering corporates relatively more attractive.

Credit markets have had their fair share of weakness over recent weeks, particularly in the Eurozone, mainly on the back of a strong showing in the primary market.

Going forward, issuance volumes are expected to abate but the flurry of the recent new issues have clearly dented the momentum of the spread tightening we had witnessed since the beginning of QE earlier on in March.

Investment Grade issuance volumes in fact reached €48 billion over the four weeks ending March 20, slightly short of the €48.5 billion seen in the best record for IG way back in January 2009. Clearly, investors couldn’t cope with the primary markets and yields rose as result of this.

Despite the recent correction in bond prices, yields are markedly lower year-to-date on the back of the sharp drop in benchmark Bund yields, which means that, on a total return basis, credit markets are comfortably within positive territory for 2015.

Going forward, with the consistent QE liquidity injections ahead, we expect the flight to quality trade to reign, placing HY markets at attractive levels. Having said this, it has not only been European credit which has suffered but markets in general have taken a breather as the two fundamental factors which have been driving markets of late namely, a stronger dollar and decline in the price of oil, had somewhat slowed down.

Since the start of March, though, Europe has underperformed the US and UK. A point worth mentioning however is that the spread differential between the US and UK vs Europe is still wider than it was back in the summer of 2014.

Following Yellen’s sharp message in last week’s FOMC meeting, we witnessed a sharp retreat in US Treasuries yields, resulting in a contagion effect on many other benchmark bonds. Short-dated high grade credit could be shunned as a result of this but, further down the ratings ladder, falling government yields could actually spur demand for credit, particularly within the BBB and High yield space.

We view the recent weakness in European credit markets as an opportunity to jump back on the band-wagon and take advantage by adding high beta names in investment portfolios. That means by taking on more conviction trades, being bold enough to add on to high yield bonds, hybrids, and longer-dated BBB issues.

Disclaimer:

This article was issued by Mark Vella, Investment Manager at Calamatta Cuschieri. For more information visit, www.cc.com.mt . The information, views and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice. Calamatta Cuschieri & Co. Ltd has not verified and consequently neither warrants the accuracy nor the veracity of any information, views or opinions appearing on this website.