Corporate bonds remain stable, so far

Corporate bonds are emerging from the pandemic in good shape, but some caution is warranted with regards to credit spreads and an uncertain economy, a CIBC portfolio manager says.  

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“Overall, the corporate bond market remains very active and healthy,” said Adam Ditkofsky, portfolio manager and vice-president at CIBC Asset Management, in an interview last week.

Corporate bonds continued to outperform the broad Canadian bond market in the first eight months of the year as companies benefited from the economic recovery, Ditkofsky said. For the period ending Aug. 31, corporate spreads remained fairly stable — ranging from 110 to 124 basis points and ending the period at 116 basis points.

High yield bonds have also benefited from the economy reopening, returning 4.5% year-to-date through August, he said, with spreads falling from 380 basis points to 315 basis. According to Ditkofsky, corporate issuance has been strong due to a healthy appetite from investors, seeing an increase of 13% year over year and reaching just shy of a $100 billion year to date. 

“We can easily see 2021 become the highest issuance year on record should levels remain elevated,” said Ditkofsky. 

Fitch Ratings has slashed its forecast for the U.S. high yield bond default rate as issuer fundamentals improve.

How the next wave of Covid-19 impacts the corporate bond market depends on vaccine uptake and effectiveness against the Delta variant and potentially other mutations, Ditkofsky said.

Key metrics to watch are hospitalizations and ICU capacity, which have forced governments to impose lockdowns and restrictions in the past, reducing mobility and ultimately harming the economy.

“Now, hopefully that doesn’t happen again and it shouldn’t, given a large majority of the Canadian population has been vaccinated,” said Ditkofsky. 

However, should further Covid-19 restrictions be needed, he warned that credit spreads could widen. High yield bonds would also underperform in this scenario, especially in sectors that are more sensitive to the economic reopening, like leisure and travel. 

Ditkofsky also warned that peak GDP growth has likely come and gone, and growth will return to a more normal rate. A lot of the recovery has already been priced into the bond market.

“The easy money has already been made as credit spreads have materially come in from their wides seen earlier in the pandemic,” he said. 

Regardless, Ditkofsly said the fundamental backdrop remains intact with strong corporate profitability and balance sheets being well capitalized, so corporate bond spreads will likely not return to levels seen early in the pandemic.

“We continue to believe that corporate bonds will outperform government bonds over the next 12 months,” Ditkofsky said. “And it’s a similar story for high yield.”

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