Some of the most incredible charts you’ll ever see are those depicting spread compression in corporate credit over the past 12 months.
Put simply, we’ve gone from “panic” to “priced to absolute protection” in the short span of a year. And that goes for both IG and HY.
The rally in HY is in no small part due to crude’s recovery from the deflationary doldrums of January/February 2016. The Shanghai Accord and the Fed’s subsequent clean relent (the March 2016 meeting) helped to put a lid on dollar strength thus effectively stabilizing global markets that looked to be on the verge of losing their shit completely. And then we got the OPEC deal which only added fuel to the fire in terms of bolstering the outlook for HY credit.
So ebullient are markets that the yield on HY energy bonds is no back to where it was when oil was trading at ~$80:
Never mind the fact that defaults in the Energy & Metals and Mining cohort were so high in 2016 that they pushed the overall HY default rate to a post-crisis record above 5%.
Well don’t look now, but optimism around crude is apparently running so rampant that the sellside feels like it needs to poll clients on whether they think energy spreads will actually trade inside HY as a whole! Have a look:
This despite the fact that US producers are effectively sowing the seeds of their own destruction by offsetting OPEC production cuts. I don’t care what history says, the outlook for crude doesn’t justify mean reversion here.
There’s only one place to go with this…