December 31, 2015


The 4th quarter of 2015 presented credit investors with a variety of challenges, from tepid demand for the fixed income sector as we faced the oncoming Fed interest rate hike to continuing deceleration in China and the collapse in oil prices. After West Texas Intermediate crude oil recovered to about $60 per barrel in the first half of 2015, the price plunged all the way to $37.04 per barrel by year end and stands today at $30.62. Copper, which saw highs of the year in May at $2.95 per pound, was near an annual low by November at $2.04 per pound and ended the year at $2.13. Low all-in yields at this stage of the credit cycle have continued to attract debt issuance and debt-fueled merger and acquisition activity, while top line growth at many firms has been low. Year-to-date through December, 2015, issuance in the investment-grade corporate debt market was $1.28 trillion, with financials and healthcare issuers leading the debt market. Towards the end of the Q4 2015, the mortgage and securitized sectors came under increased pressure along with other risk sectors and actually underperformed corporate bonds with similar ratings.
The last twelve months in investment grade corporate bonds, have experienced a secular move wider in spreads versus Treasuries, as corporate credit has underperformed U.S. Treasury securities. Although this has been an across the board move, energy and basic materials credits have performed the worst in the face of lower commodity prices. Outperformance continued in the financial sector credit space.
U.S. Treasuries ended the year with a positive 0.84% return at the aggregate level. At the end of the year, the 10-year Treasury yield increased to 2.26%, while the 30-year Treasury increased to 3.01% from the 2014 levels. In June of 2015, the 10-year Treasury yielded 2.48%, while the 30-year yielded 3.24%, the highest level since December 2014. Interestingly, while there was much anxiety over the Fed’s first rate hike since 2006, longer duration yields have remained low, with the 10-year yield at 2.10% and the 30-year yield at 2.89% as we write this.

Within high-grade fi xed income credit spreads in the Barclays Aggregate Index widened to 155bps at the end of 2015. Spreads ended 2011 at 217 bps, 2012 at 131 bps, 2013 at 111bps, and widened to 125 bps at 2014 before widening further in 2015.The year-to-date excess returns for Barclays Credit Index was negative 169 bps while longer duration credit underperformed duration neutral treasuries by 456 bps. By the end of 2015, corporate spreads widened to 165bps from cyclical lows of 99 bps in June 2014. The Barclays Corporate IG Index produced a negative 68 bps return for the year ending December attributing negative 161 bps excess return over duration neutral Treasuries. At the sector level, spreads on Industrial credit widened 43 bps, from 140 bps in December 2014 to 183 bps off Treasuries at the end of 2015. Year-to-date, the sector produced a negative 267 bps of excess return. Spreads on financial credit widened 17 bps from the previous year to 134 bps at year-end, and the sector produced a positive 48 bps of excess return YTD. Utilities also saw spreads widen by 31 bps to 150 bps and posted negative 203 bps of excess return YTD.

In the government-backed mortgage sectors, the Federal Reserve Board has continued to taper and has stopped reinvesting the cash fl ow, allowing the portfolio to run off. Starting the year with already-tight spreads, 28 bps, the agency MBS sector ended fi rst quarter at an even-tighter spread of 20bps and widened slightly to end the year at 25bps. Year-to-date the sector delivered a negative 4 bps of excess return. On the other hand, ABS spreads widened by 14 bps from 2014 to end the year at 72 bps, and the sector produced a positive 44 bps of excess return. CMBS spreads widened from 98 bps from 2014 to 121 bps at year-end. The second half of 2015 erased the year-to-date gains by ending the year with an excess return of negative 28 bps from 50bps through May.

The Barclays Aggregate Index posted a negative 0.57% total return for the Q4 2015, though ending the year with a positive 0.55% total return.