>>> Hertz Global misses by $0.31, beats on revs (8.21)

Hertz Global misses by $0.31, beats on revs (8.21)
  • Reports Q4 (Dec) loss of $1.36 per share, excluding non-recurring items, $0.31 worse than the FactSet Consensus of ($1.05); revenues rose 7.3% year/year to $2.18 bln vs the $2.15 bln FactSet Consensus.
    • Adjusted operating cash outflow of $366 million and adjusted free cash outflow of $128 million.
  • "Our business benefitted from solid demand and a stable rate environment in the fourth quarter," said Stephen Scherr, Hertz chair and chief executive officer. "Nevertheless, we continued to face headwinds related to our electric vehicle fleet and other costs throughout the quarter. We have taken steps to address those challenges and heading into 2024, we are confident that our planned reduction in EVs and cost base, along with the ongoing execution of our enhanced profitability plan, will enable us to regain our operational cadence and improve our financial performance with increasing effect into 2025."

>>> Spirit Aerosystems beats by $0.83, beats on revs; not providing guidance unt

Spirit Aerosystems beats by $0.83, beats on revs; not providing guidance until there is further clarity on the timing of Boeing (BA) 737 MAX production rate increases
  • Reports Q4 (Dec) earnings of $0.48 per share, excluding non-recurring items, $0.83 better than the FactSet Consensus of ($0.35); revenues rose 37.3% year/year to $1.81 bln vs the $1.74 bln FactSet Consensus.
  • As a result of the favorable pricing adjustments to the Boeing (BA) 787 program resulting from the Boeing MOA executed in October 2023, Spirit recorded forward loss reversals of $205.6 million and material right obligation liability reversal of $155.0 million related to the Boeing 787 program during the fourth quarter of 2023.
  • Spirit will not be providing guidance at this time until there is further clarity on the timing of 737 MAX production rate increases from our customer in relation to FAA approval and ongoing price negotiations with Airbus (EADSY).

FT : US Republicans prepare to torpedo bipartisan deal for Ukraine aid

US Republicans prepare to torpedo bipartisan deal for Ukraine aid
Donald Trump trashes Senate bill, as rift in the party threatens to kill last chance to boost funding for Kyiv

A bipartisan deal backed by President Joe Biden to deliver billions of dollars in US aid to Ukraine along with stricter immigration policies is facing a widening groundswell of resistance from Republicans in Congress, posing a major threat to its progress on Capitol Hill.

The legislation worth $118bn agreed on Sunday by Democratic and Republican negotiators in the Senate could be the last chance for the Biden administration to secure new military support for Ukraine in its defence against Russia’s invasion — alongside other national security goals including aid to Israel and Taiwan.

It also marks a rare compromise on efforts to curb immigration through the US border with Mexico, including restrictions on asylum, which has been a rallying cry for Republicans and a political liability for Democrats throughout Biden’s presidency.

But the bipartisan dealmaking has been trashed by Donald Trump in recent weeks — and the frontrunner for this year’s Republican White House nomination moved to torpedo the latest breakthrough again on Monday, just days ahead of a planned vote on the agreement in the Senate.

“This Bill is a great gift to the Democrats, and a Death Wish for The Republican Party,” the former president wrote on social media on Monday. “It takes the HORRIBLE JOB the Democrats have done on Immigration and the Border, absolves them, and puts it all squarely on the shoulders of Republicans. Don’t be STUPID!!!”

Trump, a foreign affairs isolationist, has treated the immigration crisis on the southern border as an opportunity to attack Biden as he steps up his push to win back the White House.

Within a few hours of Trump’s post, the leading Republicans in the House of Representatives — which also must approve the legislation for it to become law — issued a joint statement saying “any consideration of this Senate bill in its current form is a waste of time”.

“It is DEAD on arrival in the House,” they added.

The bill’s first legislative obstacle will be in the Senate, with a vote expected on Wednesday that would require the support of 60 of the chamber’s 100 senators.

At least 12 of the 49 Republican senators in total would have to back the bill for it to move forward as some Democrats are also expected to vote against it because they consider the border measures too draconian.

But the criticism from some Republican lawmakers has been brutal — and appears to doom its prospects.

Mike Lee, a Utah senator, called it “a betrayal of the American people” on X. Even some Republican senators close to the party leadership, which endorsed the deal, were wavering or expressing outright opposition.

“Now that I have seen the text, I have questions and serious concerns,” said John Cornyn, the Texas Republican senator who had previously encouraged the negotiations. Katie Britt, a Republican senator from Alabama, said the bill “would not stop President Biden from continuing his radical mass migration agenda”.

By late on Monday, at least 19 Republican Senators had declared they would vote against the bill, meaning it would fall at the first hurdle — another sign of the growing number and influence of isolationist hardliners on Capitol Hill as Trump extends his dominance over the party.

The expected failure of the bill also marks the latest blow to traditional Republican foreign policy hawks and political pragmatists who backed the bipartisan breakthrough, including Mitch McConnell, the party’s Senate leader. His future as leader could now be in jeopardy.

McConnell on Monday appealed for Republicans to come around and back a package that would help the US and its allies “regain the upper hand” over an “emerging axis of authoritarians” in Moscow, Beijing and Tehran.

“Make no mistake: the gauntlet has been thrown. And America needs to pick it up,” he said.

Democrats and the White House have also not given up hope the deal can at least pass the Senate.

“The $64,000 question now is whether or not senators can drown out the outside noise, drown out people like Donald Trump who want chaos, and do the right thing for America,” Chuck Schumer, the Democratic senate majority leader, said on Monday afternoon.

During a trip to Nevada on Monday, Biden was asked how the bill would pass the upper chamber. “With 60 votes, and you’re gonna watch,” the president responded.

>>> Royalty Pharma discloses MorphoSys (MOR) details following Novartis (NVS) ac

Royalty Pharma discloses MorphoSys (MOR) details following Novartis (NVS) acquisition news
  • As part of its July 2021 strategic funding partnership with MorphoSys, Royalty Pharma committed up to $2.025 billion in funding to MorphoSys to enable the acquisition of Constellation Pharmaceuticals in exchange for royalties, development funding bonds and equity.
  • Royalty Pharma is entitled to royalties on the following therapies: 3% royalty on future net sales of pelabresib, a bromodomain and extra-terminal (BET) inhibitor for myelofibrosis, in development by MorphoSys. A New Drug Application (NDA) for pelabresib is expected to be submitted in the United States and European Union in mid-2024 based on the results of the phase 3 MANIFEST-2 study. 3% royalty on future net sales of tulmimetostat, a second-generation enhancer of zeste homolog 2 (EZH2) inhibitor, which is in phase 2 development by MorphoSys for the treatment of hematological malignancies and solid tumors. Tiered, mid-single digit royalty on Tremfya, which is marketed by Johnson and Johnson for psoriasis and psoriatic arthritis, and generated sales of $3.1 billion in full-year 2023. Tiered 3.3% to 4.2% effective royalty on future net sales of trontinemab for Alzheimer's disease, in development by Roche.
  • Royalty Pharma provided MorphoSys $300 million in exchange for Development Funding Bonds. MorphoSys will make 36 consecutive payments to Royalty Pharma totaling approximately $660 million (2.2 times the funded amount) to repay the Development Funding Bonds, beginning in the fourth quarter of 2024.
  • Royalty Pharma also acquired 1,337,552 shares of MorphoSys which would be valued at approximately $100 million at Novartis' proposed acquisition price and current foreign exchange rates.

>>> DuPont beats by $0.02, reports revs in-line; guides Q1 EPS below consensus,

DuPont beats by $0.02, reports revs in-line; guides Q1 EPS below consensus, revs in-line; guides FY24 EPS in-line, revs in-line; new $1 bln buyback with a $500 mln ASR; ups dividend 6% (61.21)
  • Reports Q4 (Dec) earnings of $0.87 per share, excluding non-recurring items, $0.02 better than the FactSet Consensus of $0.85; revenues fell 6.6% year/year to $2.9 bln vs the $2.92 bln FactSet Consensus.
  • Co issues guidance for Q1, sees EPS of $0.63-0.65, excluding non-recurring items, vs. $0.67 FactSet Consensus; sees Q1 revs of ~$2.8 bln vs. $2.85 bln FactSet Consensus.
  • "We expect sequential sales improvement and an approximate ten percent increase in operating EBITDA in the second quarter of 2024 from first quarter driven by some inventory destocking abatement, seasonality factors and realization of cost savings."
  • "Our current expectation for full year 2024 forecasts a return to year-over-year sales and earnings growth in the second half driven by anticipated electronics market recovery, including improvement in semiconductor fab utilization rates, as well as improved orders within industrial markets as customer inventory levels normalize"
  • Co issues in-line guidance for FY24, sees EPS of $3.25-3.65, excluding non-recurring items, vs. $3.58 FactSet Consensus; sees FY24 revs of $11.9-12.3 bln vs. $12.28 bln FactSet Consensus.
  • Additionally, DuPont announced that its Board of Directors approved a new share repurchase program authorizing the repurchase and retirement of up to $1 billion of common stock (the "$1B Program"). DuPont intends to enter into ASR transactions under the $1B Program beginning with an ASR transaction expected to be launched imminently to repurchase in aggregate $500 million of common stock. DuPont expects to complete the $1B Program by the end of 2024.
  • The Company today also announced that its Board of Directors has declared a first quarter dividend of $0.38 per share on its outstanding common stock, representing a 6% increase to its quarterly dividend, payable March 15, 2024, to holders of record at the close of business on February 29, 2024.

>>> Europe : Brokers Upgrades & Downgrades - 6th of February 2024 V3(++)

>>> Up
* Chrysalis Investments Raised to Outperform at Peel Hunt (+)
* Holmen Raised to Buy at Handelsbanken (++)
* *ITM POWER RAISED TO BUY AT REDBURN ATLANTIC (++)
* Legrand Raised to Hold at Jefferies; PT 85 euros
* MorphoSys Raised to Neutral at Citi; PT 68 euros
* MorphoSys Raised to Neutral at Kempen & Co (+)
* Newron Pharma Raised to Buy at Baader Helvea
* Nordea Bank Raised to Buy at OP Corporate Bank; PT 13 euros (++)
* Palantir Raised to Hold at Jefferies; PT $22
* Sainsbury Raised to Buy at HSBC; PT 310 pence
* Salzgitter Raised to Buy at Bankhaus Metzler; PT 32.50 euros (+)
* Schindler Raised to Buy at SocGen; PT 245 Swiss francs
* SKF Raised to Equal-Weight at Morgan Stanley; PT 215 kronor
* Tyson PT Raised to $55 from $48 at Piper Sandler
* Vodafone Raised to Hold at DZ Bank; PT 70 pence (+)
* Zurich Airport Raised to Buy at BofA; PT 212 Swiss francs (++)

>>> Down
* Acciona Energia Cut to Sell at Goldman; PT 24 euros
* Ahold Delhaize Cut to Reduce at HSBC; PT 23 euros
* Air Products PT Cut to $240 from $285 at Jefferies
* Alliance Pharma Cut to Hold at Stifel; PT 42 pence (+)
* Bristol Myers Cut to Neutral at Redburn; PT $77
* Cherry Cut to Hold at Bankhaus Metzler; PT 2.40 euros (+)
* Chevron Cut to Hold at DZ Bank; PT $160 (+)
* Embraer ADRs Cut to Hold at HSBC; PT $19
* Enento Group Cut to Accumulate at Inderes; PT 21 euros
* Entain Cut to Equal-Weight at Barclays; PT 1,070 pence
* Eutelsat Cut to Hold at SocGen; PT 4 euros
* Golden Ocean Cut to Hold at DNB Markets; PT 121 kroner (++)
* LEG Immobilien Cut to Hold at M.M. Warburg (+)
* LVMH Cut to Hold at HSBC; PT 860 euros
* Metro Cut to Reduce at HSBC; PT 5.50 euros
* Mithra Pharma Cut to Reduce at KBC Securities (++)
* Nel Cut to Sell at Arctic Securities; PT 4.50 kroner
* NEL CUT TO NEUTRAL AT REDBURN ATANTIC (++)
* ON Semi Cut to Neutral at Fubon; PT $85
* Princess Private Equity Cut to Hold at Stifel
* RWE Cut to Hold at Stifel; PT 40 euros
* Solaria Energia Cut to Neutral at Goldman; PT 16 euros
* Springvest Cut to Reduce at Inderes; PT 5.50 euros
* Tesla Cut to Neutral at Daiwa; PT $195
* Valeo Pharma Cut to Speculative Buy at Paradigm Capital
* Vodafone Cut to Neutral at Oddo BHF; PT 74 pence (+)

>>> Initiation
* Befesa Rated New Buy at Hauck & Aufhaeuser; PT 46 euros (+)
* BE Semiconductor Rated New Outperform at BNPP Exane
* Ceres Power Rated New Sell at Redburn (++)
* Georg Fischer Rated New Buy at Berenberg; PT 72 Swiss francs
* Pluxee France Rated New Neutral at Goldman; PT 30.50 euros
* Pluxee France Rated New Buy at Citi; PT 38 euros
* SThree Rated New Buy at Berenberg; PT 550 pence
* Stif Rated New Buy at Greensome Finance; PT 12.73 euros (+)
* Thyssenkrupp Nucera Rated New Buy at Redburn (++)
* Vitec Software Group Assumed Hold at Kepler Cheuvreux (++)

>>> Call
* BP’s Extended Share Buybacks a ‘Welcome Positive’: RBC (+)
* Ceres Power Falls on New Sell at Redburn; Nel Dips on Double Cut (++)
* Citi’s Montagu Says Bullish Stock Flows Stall in Early February (+)
* Entain Cut at Barclays on Sluggish Online Growth, Balance Sheet (+)
* Georg Fischer New Buy at Berenberg on Uponor Consolidation Boost
* JPMorgan’s Kolanovic Sees Fewer Rate Cuts Than Markets Expect
* Legrand Raised to Hold at Jefferies Following Underperformance
* Sainsbury Gains as HSBC Upgrades to Buy, Labels Top Pick
* SKF Raised at Morgan Stanley on Reduced Margin Risks in 2024
* Sodexo-Spinoff Pluxee Rated New Buy; Citi Sets Street-High PT (+)
* Stadler Rail’s Saudi Order Deepens Regional Foothold: Citi (+)

>>> US Early premarket gappers

Early premarket gappers
  • Gapping up:
    • PLTR +17.6%, COHR +9.7%, VRNS +7.2%, CHX +6.3%, BP +5.2%, VLRS +5%, PINC +5%, AUDC +4.3%, TM +3.7%, BRBR +2.6%, NXPI +2.5%, NTCO +2%, MOR +1.9%, ACM +1.6%, VRTX +1.5%, SKY +1.3%, CBT +1.3%, LIN +1.3%, INGR +1.3%, SPCE +1.2%, WTW +1.1%, GBDC +1%, SPG +0.9%, HIMX +0.9%, INCY +0.8%
  • Gapping down:
    • SYM -18.6%, FMC -15.4%, CCK -12.8%, FN -11.9%, KE -10.2%, RMBS -9.9%, CHGG -7.5%, UFPI -7%, JJSF -7%, IRS -6.6%, AMKR -6.5%, SSD -3.7%, HESM -3.5%, UBS -3.5%, CHKP -3%, HI -2.1%, IT -2.1%, FDMT -1.4%, ST -1%

FT : Toyota raises profit forecast as hybrid sales soar

Toyota raises profit forecast as hybrid sales soar
World’s biggest automaker’s bet on technology justified by a nearly 50% increase in hybrid-electric car sales in latest quarter

Rising sales of hybrid cars helped Toyota beat estimates in the third quarter as the world’s largest automaker raised full-year profit forecasts and provided further vindication of its bet on the technology.

The Japanese company increased its operating profit forecast for the year to March to ¥4.9tn ($34bn) from ¥4.5tn and said that profit in its fiscal third quarter hit ¥1.7tn, an increase from ¥957bn a year earlier. The results beat analyst expectations, according to LSEG data, and sent its shares up 4.8 per cent by the close in Tokyo.

The carmaker said the increase was mostly owing “to marketing efforts as sales volume increased in all regions”, especially for higher margin and hybrid electric vehicles, while the weak yen provided an additional benefit. 

“In all regions, the share of hybrid sales has gone up, so as a realistic solution hybrids are still favoured by our customers,” Toyota’s chief financial officer Yoichi Miyazaki told journalists.

“Last year, hybrid vehicles sold 3.4mn to 3.5mn units. In 2022, I think it stood at 2.6mn or so. So within the year, there has been an increase of slightly less than 1mn in demand for hybrids globally. And I think demand is likely to reach 5mn units by around 2025,” he said.

In the third quarter, hybrid sales increased 47 per cent year on year to 951,000, as total vehicle sales rose 10 per cent.

The buoyant sales of hybrid electric vehicles counter concerns from some analysts that Toyota is not moving fast enough towards pure battery-electric vehicles (BEVs). It plans to sell 3.5mn of the EVs annually from 2030 but sold only 104,000 BEVs in the 2023 calendar year.

The increase in hybrid demand “vindicates their bet on the technology. However, the risk is if EV demand picks up quickly, through mass-market production for example, Toyota might not be ready to take advantage. But clearly, Toyota is now in a sweet spot,” said James Hong, auto analyst at Macquarie

“Many [original equipment manufacturers], such as GM, are making the same kind of bet on hybrids now, as BEV growth declines and CO₂ targets from regulators remain in place,” said Thomas Besson, head of automotive research at Kepler Cheuvreux.

The Toyota group — which retained its crown as the world’s largest carmaker last year, selling a record 11.2mn passenger vehicles when including its subsidiaries — has long been committed to “a multi-pathway approach” that relies on a wide variety of cars being sold across more than 170 countries, where BEVs will remain unaffordable for years to come.

Last month, its chair Akio Toyoda said he saw BEV penetration topping out at 30 per cent and the level of adoption was “something that customers and the market will decide, not regulations ​​or political power”. The remaining 70 per cent of vehicles would be hybrids, hydrogen-powered or have traditional petrol engines, he added. 

Toyota is currently battling a spate of data scandals at some of its closest affiliates, including Daihatsu, which has led to it slightly lowering sales estimates for Japan. 

Toyoda said last week he would personally “take action” and attend the annual meetings of affiliates this summer where he would be judging them on what actions they had taken. The group would also examine the pace of new projects and development in light of the scandals, some of which were brought about by too much pressure on the affiliates.

FT : Chinese equities rebound on hopes of support from Beijing

Chinese equities rebound on hopes of support from Beijing
Regulators release a series of announcements in a bid to stabilise markets

Chinese equities staged a rebound on Tuesday as state funds vowed to step up share purchases, spurring investor hopes that Beijing might be ready to offer more support to put a floor under months of sliding prices.

Shares began climbing after Central Huijin, an investment arm of China’s sovereign wealth fund, said it would expand its purchases of exchange traded funds.

The China Securities Regulatory Commission also said it would encourage institutional investors to hold A-shares for a longer period of time, as it worked to stabilise a sell-off that has wiped out almost $2tn in market capitalisation from a 2021 peak.

The CSRC said it would punish “malicious” short selling and stop “illegal behaviour” that hindered stable stock market operations. It further barred securities lending and short selling in a separate notice. It also vowed on Monday to closely monitor the risk of forced liquidations on pledged shares.

The onshore benchmark Chinese stock index CSI300 closed 3.2 per cent higher on Tuesday. The broader CSI500 index and its small-cap counterpart CSI1000 index both closed about 7 per cent higher following Central Huijin’s announcement.

The Hang Seng index closed 4 per cent higher, its biggest rise since July 25, while the Hang Seng Tech index closed with gains of 6.8 per cent.

The sell-off in China’s stock markets has underlined the lack of confidence surrounding the economic outlook for the world’s second-largest economy, after months of weak consumer demand and indicators suggesting that industrial activity was struggling to rebound.

Despite previous efforts from Beijing to shore up the market and extensive trading restrictions for short coverings, Chinese markets recorded a brutal start in 2024. Last week, the CSI300 plunged 4.6 per cent to close at a five-year low on Friday. 

Retail investors, who bought into some Rmb300bn worth of derivatives called “snowballs” tied to small-cap stock indices such as the CSI1000, suffered huge losses after the recent rout.

More than 100 listed companies have topped up cash or collateral in the margin trading accounts as they faced forced selling of stocks, said the market regulator on Monday.

“The market grapples with complexity amid a distressed property sector, fiscal constraints of local governments, and a lack of confidence in the private sector,” said Redmond Wong, chief China strategist at Saxo Markets.

Despite the erosion of confidence in Chinese equities, Beijing has taken incremental steps to shore up sentiment and has held back from a significant intervention or stimulus package.

“The market has such a deep confidence issue that we need more dramatic and direct support, such as having the national team taking the lead in buying up the market,” said Wang Qi, chief investment officer for wealth management at UOB Kay Hian in Hong Kong. “The government can’t expect investors to buy in with such wishy-washy measures.” 

Wang added: “The longer the government waits, the higher the cost.”

Zhang Qi, analyst with Haitong Securities, said investors would need to see more from Beijing for a sustained rally.

“The key for reviving confidence still lies in the recovery of the economy,” he said, “investors need to see the rebound in consumption, exports, employment and incomes, the efforts cannot be made only from the statistics bureau.”

FT : More on the corporate credit boom

More on the corporate credit boom

The crowded corporate credit trade, part 2
Last week I looked at the boom in corporate credit and the accompanying tight credit spreads in high-yield and investment-grade bonds. I made the point by looking at spreads over Treasuries since the financial crisis, and noting that they’re in the bottom decile of tightness.

But it’s even more extreme than that. The chart below, courtesy of Marty Fridson of Lehmann Livian Fridson Advisors, makes the point. Fridson models the relationship between HY spreads and other indicators, including Bloomberg consensus recession probability and the five-year Treasury yield, with data since the end of 1996. For example, the historical range of HY spreads that have coincided with today’s recession odds (40-50 per cent) is between 483bp and 1726bp. The median spread during 40-50 per cent recession odds is 795bp, compared with the current reading of 347bp. That pattern of uber-tightness holds across correlates. As the chart shows, by some measures today’s HY spreads are narrower than previous records:

Spreads are not expected to widen much, either, because demand appears insatiable. John Higgins of Capital Economics, a forecaster, projects that spreads on IG and HY will end 2024 little changed (though he notes that unexpected economic weakness could change the outlook). New bonds issued by regional banks have been quickly snapped up. Investors easily digested an “exceptionally strong” $30bn in new HY supply in January, the strongest month in two years, says Hussein Adatia, fixed-income portfolio manager at Westwood. He adds:

We expect this trend to continue in February given corporate bond spreads remain tight and issuers are eager to address 2024 and 2025 debt maturities while markets remain accommodative. The dearth of new HY supply over the past two years has left investors flush with cash and they have been more than happy to absorb the new supply (thus far).

How have spreads stayed so tight? One explanation is the best-of-all-worlds combination of falling cyclical risk, expected rate cuts and high current bond yields. With junk-rated yields north of 7 per cent alongside 3 per cent gross domestic product growth, investors needn’t worry about getting paid for taking on default risk, so they look past tight spreads. Coming after a decade of paltry fixed-income returns, it’s no surprise investors are “making up for lost time in bonds”, says Fridson.

This pattern has shown up before. Generally, bond yields and spreads travel together, reflecting the risk of defaults (which push both yields and spreads higher). But when the economy is strong, the two can diverge. The usual close link between HY spreads and yields weakens when US real GDP is growing faster than 3 per cent; the correlation coefficient drops from 0.8 to 0.5. The charts below show four episodes of HY spreads and yields coming apart, including over the past several months. You’ll notice that in some instances yields are rising, while in others they’re falling. What the four have in common are tumbling spreads during benign economic conditions (please forgive the ugly Excel graphs!):

It’s clear, then, why investors have been so into corporate credit. But is a trade so crowded still any good? An intuition you might bring from equities land is that high starting valuations imply lower expected returns. Bonds are not equities, of course. But if you overpay for credit risk, realised returns might turn out a lot worse than the yield you were initially promised.

I recently put that question to David Rosenberg, who runs Oaktree’s HY and IG bond business as well as its global credit strategy. Notwithstanding tight spreads, he still likes the trade. Spreads, he notes, are only one of three components that matter to corporate credit. The other two, price and yield, look quite attractive. Yields are in an equity-like range. And the average price on bonds in the Ice-BofA HY index is 92 cents on the dollar. Because bonds mature at face value, investors will receive extra returns through the “pull to par” effect as the bonds age.

At current valuations, though, Rosenberg prefers HY to IG for two reasons. The first is that while HY spreads may be tight relative to history, HY still gives you a meaningful step up in absolute returns versus Treasuries. On the other hand, IG’s yield is so close to that of Treasuries that investors are more reliant on rates falling to deliver outperformance. Here’s Rosenberg:

The concept that we’re going to have a soft landing or no landing with five rate cuts doesn’t seem likely to me . . . 

When I look at the difference between IG and high yield today, the reality is you’re picking up 200-250 basis points of yield. You’re picking up risk, but you’re getting paid for it. In IG today, you need rates to go down for that trade to work. Eventually they’ll come down, but I’m not sure it’ll be as quick as the market expects. In high yield, I don’t need rates to come down because the coupon is so much higher.

The past decade of IG-vs-HY performance bears this out. Returns for IG, which has longer duration than HY, track those for long-dated Treasuries. IG, in other words, is largely a rates bet. However, HY significantly outperformed the relevant Treasury benchmark, helped by a mostly gentle credit cycle (charts from regular Unhedged correspondent Dec Mullarkey of SLC Management):

Rosenberg’s second point in favour of HY is quality. As we’ve discussed before, the HY bond universe has seen a big improvement in the composition of credit ratings. About half the market is made up of double-B bonds, the highest-quality rung, up from about a third a decade ago. The coronavirus pandemic only accentuated this, by killing off some of the weakest credits. The share of triple-C bonds, the junkiest sort, is at a decade low. Rosenberg again:

There’s no bargain if you’re just going to take a bunch of risk to get more yield. Anyone can do that. The art of this business is to get the yield and keep risk low . . . 

Today, the mix of quality is the best we’ve seen in a decade. While many people say spreads are just OK, I say, sure, but quality is really good. So if I can get a yield that’s high and a quality that’s high, that is very rare. The difference today is that the yield is high, not because people are scared and spreads are wide, but because the base rate is high. That allows you to get income without having to take undue risk.

All this gets to an important difference between a bull market in equities and one in bonds. Equity investors need earnings growth to do well. However, bonds are contracts; investors just need enough cash flow to get paid. Aside from the riskiest slices, corporate bonds usually require a significant economic dislocation (a recession, an oil price collapse) to flop. It is obviously still possible to post poor returns in bonds. But animal spirits are safer in some markets than in others.