September 30, 2015


The third quarter was an extremely volatile period for both equity and credit markets. The quarter started off with fears of a default in Greece and ended with legitimate global growth concerns around poor economic numbers out of China and tumbling commodity prices. Despite im-provement in US Economic numbers, the Fed stayed dovish and decided not to raise rates in September citing global growth concerns.
Spreads widened throughout the quarter with names in energy, metals and mining trading at some of their widest spreads over the past 5 years. West Texas Intermediate crude oil recovered into the 60’s during the second quarter just before it plunged to $38.24 per barrel in August. Copper, which saw highs of the year peak in May at $2.95 a pound, was near its lows of the year in August ($2.24 per pound) and closed out the quarter at $2.34 a pound.
Treasuries experienced the usual flight to quality amidst the difficulty in other risk assets and also benefited from the delay of the Fed’s overnight rate increase. The US 10-year Treasury yield started the quarter at 2.32% and finished the quarter at 2.04%.

Within high-grade fixed income, credit spreads in the Barclays Aggregate Index ended 2011 at 217 bps, 2012 at 131 bps, 2013 at 111 bps, and widened to 125 bps in 2014. Spreads widened to 160 bps at the end of third quarter of 2015. The year-to-date excess returns for Bar-clay Credit Index was negative 222 bps while longer duration credit underperformed duration neutral treasuries by 523 bps. By the end of September 2015 corporate spreads widened to 169bps from cyclical lows of 99 bps in June of 2014. The Barclays Corporate Index produced a -0.92% return for the year ending June, subsequently erasing gains from the first quarter and attributing negative 62 bps excess return over duration neutral Treasuries.

At the sector level, spreads on Industrial credit widened 31 bps, from 153 bps at last quarter-end to 184 bps off Treasuries as of September. Year-to-date (YTD), the sector produced a negative 281 bps excess return.  Spreads on financial credit widened 12 bps from the previous quarter to 145 bps at the current quarter-end. The sector produced a negative 63 bps excess re-turn YTD. Utilities posted a negative 261 bps excess return YTD as spreads widen by 15 bps to 152 bps.   
Fixed income spreads, typically correlated with corporate credit spreads, moved wider in concession with broader risk assets such as equities which had their worst quarter since 2011. Nonetheless, there has been notable push back by credit investors on corporate fundamentals, particularly in non-financial credit. Leverage, measured in a number of different ways such as Debt/EBITDA, is higher than 2007 levels in non-financial corporates. Furthermore, interest cover-age has declined and corporate fundamentals look like they are in the late stages of the credit cycle.

Starting the year with already-tight spreads, 28 bps, the agency MBS sector ended the first quarter with an even-tighter spread of 20 bps and widened slightly to end the third quarter at 33 bps. Year-to-date the sector delivered a negative 70 bps excess return. On the other hand, ABS produced a positive 52 bps excess return as sector spreads widened 7 bps to end the third quarter at 69 bps. CMBS spreads widened 7 bps to 108 bps at quarter-end. June erased the year-to-date gains by ending the quarter with an excess return of 0 bps from 50bps through May.

The Barclays Aggregate Index posted a positive 1.23% total return for the quarter.