Are credit fundamentals in high yield cause for concern?
Recent credit market reports show some deterioration in credit fundamentals for high-yield companies. Among the reasons cited are trends in the first quarter including slowing revenue growth, decreasing EBITDA, and an increase in leverage ratios. As the credit cycle drags on, investors are on the lookout for any cracks that could spread across the market.
With that in mind, is the state of credit fundamentals in high yield cause for concern?
Not much encouragement in economic data
Recent economic data don’t help the case. The latest readings showed a decline in U.S. manufacturing, with the May Purchasing Managers Index (PMI) coming in at 50.6, the lowest level since September 2009, according to IHS Markit. On top of that, the latest employment figures showed jobs added at a rate lower than expected.
Despite the unemployment rate remaining well below 4% and the May PMI still showing expansion, many found these recent indicators to be worrisome.
Waiting to worry...for now
While all these factors are indeed worth watching, they are not unexpected and in our view, don’t merit serious concern at the moment. Given growth trends and general late-cycle dynamics, not to mention current trade tensions, some weakness in credit fundamentals is normal. Therefore, the latest data on high-yield companies are not showing weakness at a level that is concerning.
We will certainly continue to monitor these trends in leveraged credit, but are not sounding the alarm just yet. That said, the macro backdrop could change things quickly, so those factors are likewise worth watching closely. For instance, if the trade feud continues longer than expected or if we see a near-term Fed policy error—though after today’s meeting that at least appears less likely—our level of concern may rise.