Albert Ngo discusses how the COVID-19 situation has impacted the corporate bond market in this Off the Cuff video.
This is Albert Ngo, senior portfolio manager, Empire Life Investments, with another segment of Off the Cuff video. First I just want to wish everyone well and I hope that you're managing during these unusual times.
Here, at Empire Life Investments, we're trying to do our part to flatten the curve. The Investment Team is working from home or remotely. Although we're not in the office every day, things are going smoothly. We’re in constant communication and updating each other with ideas and what's going on in our respective markets and portfolios.
With the first quarter now behind us, I would like to take this time to provide an update on what we've been seeing in the corporate bond markets. The first quarter was the most volatile we've seen since the financial crisis, and although the magnitude of the self-off was not as extreme, the pace was roughly two times as fast. In a matter of a couple of weeks, we saw corporate bond spreads go from historic lows to cyclical highs. It was the type of market where there was really nowhere to hide other than government bonds which did their job of acting as insurance.
During the quarter, government bonds were up while all the other asset classes we invest in were down. Investment-grade corporate bonds were down 3%; high-yield bonds were down 13%; Canadian preferreds were down 25%, and equities were down around 35% with the heaviest losses occurring within a two-week time frame.
Given the speed and the severity of the sell-off, we’ve been asked if this is a repeat of the financial crisis. I do not believe it is as we are not questioning the solvency or the functioning of the financial system. Instead, in Q1 we had two big external shocks due to the COVID-19 pandemic and the oil price war between Russia and Saudi Arabia. These events triggered a sell-off. The speed and magnitude of the sell-off was exacerbated by: 1) the growth of fast money such as ETFs and algorithmic trading in credit markets and; 2) the temporary lack of liquidity as many participants rushed in to raise cash at the same time. In a matter of weeks the Fed and other central banks implemented various policies to shore up liquidity. We've seen an improvement in the functioning of fixed income markets and the ability of companies to access credit. Since testing the lows in corporate bond markets, the market has recovered about one third of those losses. So where does that leave us today?
Going into the year, our corporate bond portfolios were repositioned fairly conservatively given that corporate bond spreads and yields were at historical lows. From here it's impossible to predict the direction of the market in the short term. Regardless, our process remains the same. We continue to invest in companies that have sustainable balance sheets or that provide attractive risk-reward at attractive evaluations. As spreads went from historical lows to cyclical highs, we are seeing many attractive entry points to invest in good businesses with strong management teams and balance sheets at valuations we haven't seen since the financial crisis. These types of opportunities don't come along all the time but you can rest assured that we are in a good position to take advantage of them as they arise.
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