Keep an Eye on Credit Markets

11/16/2017 12:00 pm EST

Focus: INCOME

David Fabian

Managing Partner, FMD Capital Management

After a relentless march higher throughout October and into the first week of November, the recent selloff feels like the market is suffering from too much of a good thing, cautions David Fabian, editor of Flexible Growth and Income Report.

While equities are just marginally off their highs, the more important chart on our screens is the iShares High Yield Corporate Bond ETF (HYG), which is still one of our favorite proxies for activity in the credit markets.

We have talked for months of the dangers, or the “other side”, of spread compression whereby high yield bond investors are assuming much higher risk levels for a much lower marginal spread over Treasury bonds.


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The problem with that is it creates weak hands, whereby investors that were late to making allocations following the correction in credit in 2016, have very little to show for gains.

As a result, the first sign of volatility or the possibility of capital losses are met with sharp selling. As we all remember from 2008, selling can beget selling in the credit markets.

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In our opinion, investors have had it too easy for too long, clipping sizeable coupons without any of the commensurate risks in principal.

It may be too early to say whether this is an all-out change of trend, but with the 200-day moving average getting pierced briefly today, we have our eyes on affixed on what happens next in credit-sensitive securities.

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