Credit market commentary

Credit market commentary: August 2023

Credit markets saw another month of positive returns in August as high yield bonds returned 0.29% while senior secured loans returned 1.17%.

September 18, 2023

Data as of August 31, 2023, unless otherwise noted.

Performance (total returns)

BenchmarksAugust 2023YTD
Bloomberg U.S. Aggregate Bond Index (Bloomberg Agg)-0.64%1.37%
ICE BofAML U.S. High Yield Index (HY Bonds)0.29%7.22%
S&P/LSTA Leveraged Loan Index (Senior Secured Loans)1.17%9.11%

Performance data quoted represents past performance and is no guarantee of future results. An investment cannot be made directly in an index.

Key takeaways

  • Credit markets saw another month of positive returns in August as high yield bonds returned 0.29% while senior secured loans returned 1.17%. Both indexes were again led by CCC-rated securities, which have far outpaced their higher-rated peers year to date.
  • In the wake of 525bps in Fed rate hikes, yields on high yield bonds and senior secured loans, respectively, sit approximately 70bps and 255bps higher than the average annual return of the S&P 500 over the last 50 years (7.8%). Against this backdrop, both asset classes could withstand approximately 200 basis points (bps) or more of widening and still provide positive total returns over the next 12 months.

Solid momentum in credit markets continued in August: High yield bonds returned 0.29% in August while senior secured loans returned 1.17%. Both asset classes have seen strong year-to-date returns, with loans outperforming high yield bonds at 9.11% vs 7.22%, respectively. High yield spreads modestly widened during the month while loan spreads tightened to their lowest point over the past year driven by strong institutional demand. As has been the case throughout this year, lower-rated securities outperformed their higher-rated peers in August. CCC bonds returned 1.02% compared to 0.48% and -0.04% for B and BB bonds. CCC loans returned 2.01% and outperformed BB loans by 125 basis points. High yield bond issuance has been extraordinarily low for each of the past three months, with just $9.3 billion in issuance in August, $6.7 billion in July and $14.1 billion in June. However, year to date issuance of $111.2 billion is up over 2022’s depressed levels of $81.0 billion over the same period last year. Boosted by a surge in refinancing/repricing activity, loan issuance of $41.4 billion in August reached its highest point since Feb 2022. Net flows for senior secured loans had been turning gradually less negative since March 2023 and were slightly positive in August, at approximately $48.2 million. Meanwhile, July’s high yield inflows turned into outflows of approximately -$1.6 billion in August. Default activity picked up in August with five defaults and six distressed exchanges. High yield bonds’ trailing 12-month default rate including distressed exchanges, rose 18bps month over month in August to 2.40% while the same rate for senior secured loans fell 4bps, to 2.92%. Across both markets, default rates remained below the long-term averages of 3.2% and 3.1% for high yield bonds and senior secured loans, respectively.    

Elevated yields profile boosts credit markets: In the wake of 525bps in Fed rate hikes, credit yields are competitive compared to historical equity market returns. For example, high yield bond and senior secured loan yields of approximately 8.5% and 10.4%, respectively, sit approximately 70bps and 260bps higher than the average annual return of the S&P 500 over the last 50 years (7.8%). Additionally, high yield bond and loan yields are cheap relative to the S&P 500, trading in their 38th and 6th percentile, respectively. Amid the elevated yield environment, both asset classes could withstand approximately 200 basis points (bps) or more of widening and still provide positive total returns over the next 12 months.

Index descriptions: Bloomberg Barclays U.S. Aggregate Bond Index is a broad-based flagship benchmark that measures the investment grade, U.S. dollar-denominated, fixed-rate taxable bond market. The index includes Treasuries, government-related and corporate securities, MBS (agency fixed-rate and hybrid ARM pass-throughs), ABS and CMBS (agency and non-agency). ICE BofAML U.S. High Yield Master II Index is designed to track the performance of U.S. dollar-denominated below investment grade corporate debt publicly issued in the U.S. domestic market. S&P/LSTA Leveraged Loan Index is a market value-weighted index designed to measure the performance of the U.S. leveraged loan market.

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This credit market commentary and any accompanying data is for informational purposes only and shall not be considered an investment recommendation or promotion of FS Investments or any FS Investments fund. The credit market commentary is subject to change at any time based on market or other conditions, and FS Investments and FS Investment Solutions, LLC disclaim any responsibility to update such credit market commentary. The credit market commentary should not be relied on as investment advice, and because investment decisions for the FS Investments funds are based on numerous factors, may not be relied on as an indication of the investment intent of any FS Investments fund. None of FS Investments, its funds, FS Investment Solutions, LLC or their respective affiliates can be held responsible for any direct or incidental loss incurred as a result of any reliance on the credit market commentary or other opinions expressed therein. Any discussion of past performance should not be used as an indicator of future results.

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