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How Low Can You Go?

August 14th, 2020

Market Views

1963. Limbo fever was in the air, and over the sound system, Chubby Checker egged on his listeners with that question.  When the limbo bar was brought down to a seemingly impossible level, someone at the party managed to squirm by and get that bar dropped to another seemingly impossible level.

Over the past 20 years, global fixed income has taken to limbo and become its greatest practitioner. When nominal global bond yields first approached the sub-1% level in the late 90s, investors and issuers gasped at the few Houdinis who could clear that razor thin spread.  Who would buy debt – let alone long-term debt – that basically preserved capital, assuming zero inflation?  How low can you go?

By 2010, around 20% of global bonds yielded between 0% and 1%.  It took under five years for the global bond market to drop the bar to 0%, asking participants to dance in negative territory. Surely the physics of risk/return would ascertain that no bodily contortion could manage clearing a bar that was below zero?  Yet, the impossible became possible again as about 20% of global bonds had negative yields by mid-2016.  How low can you go?

By June 2020, 60% of the $60 trillion global bond market had yields below 1% nominal, 86% were below 2%, and more than 95% were under 5%.  Given these trends, we are loath to challenge our reigning limbo champ to drop the bar lower.

**Data above courtesy of the Financial Times and ICE Data Services

Most traditional fixed income – including high yield and leveraged loans – have seen spreads collapse over the past few months after widening due to Covid. Yields in July 2020 are back at December 2019 levels.  In contrast, digital private credit assets have seen loss-adjusted net asset yields widen by about 200 – 400 bps.

As current trends point to an extensive period of low (and negative) nominal and real returns, it is time for allocators to consider other fixed income options that can deliver more attractive risk-adjusted returns.

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