Overview of global credit performance in Q4 2019

Nikko AM’s Global Credit Strategy added another 1.77% of performance in Q4 2019 to round up a very positive year. Although we reduced risk in Q4 2019 to protect the overall strong annual performance, we were still able to benefit from a benign credit market. Solid support from global central banks also buoyed the credit market at the end of 2019. Main drivers for the performance within the portfolio were our positions in the banking, telecommunication and healthcare sector. All three sectors benefited from their domestic focus, which shielded them from the global trade war. In particular, bonds issued out of the US and Europe helped the performance, with our investments in Asia also contributing. The only sector that contributed negatively to the total 4Q return was energy, which was affected by oil prices.

In terms of our curve position, the long-end generated the most performance, while bonds in the 1– to 3-year bucket lagged. Furthermore, BBB-rated issuers were the strongest performance contributors in Q4 2019, with A-rated bonds coming second in the performance ranking.

Outlook for Q1 2020

We think our lower-for-longer view on rates will continue to hold throughout 2020 in Europe as industrial production data and PMI survey figures point to weakness in the European economy. Based on recent weakening trends, we believe that Germany’s economy is likely to flirt with a technical recession in the first half of the year. The European Central Bank (ECB) will continue to expand its balance sheet to the tune of EUR 20 billion per month. But discourse is growing regarding the damaging impact of the negative rate environment and we do not see the ECB adjusting its policy rate for the next few years. We think that ECB President Christine Lagarde will continue to push for fiscal stimulus; German resistance to this idea will likely wane as its economy moves towards recession. The prospect of below-average growth combined with balance sheet expansion in "perpetuity" will likely serve to hold interest rates at low levels for a much longer period than expected.

In spite of global equity markets reaching record highs at the start of January, the dominant story for markets over the past few weeks has been the return of risk-off sentiment caused by the coronavirus outbreak. The virus has added a new downside risk for markets, spreading just as there were initial signs that the global growth outlook was becoming more positive. As a result, a sell-off in risk assets has been the main story in January, with investors instead moving into a variety of safe havens.

For the coming months, we remain optimistic and forecast stable to slightly tighter spreads. We think that coronavirus concerns will be only temporary. We will centre our investments on investment grade, non-cyclical credits, banks, subordinated bonds and Asian credit. We will also add BB bonds as well as automotive issuers. Besides credit, we expect interest rate risk to be an important topic in 2020 as the global macroeconomic environment continues to stabilise, possibly causing rates to rise and negatively impact total returns. However, we believe an active approach to global credit and positive credit excess returns will best mitigate the impact of increasing rates.