The high-yield market was weighed down by the sharp rise in sovereign yields amid escalating tensions in the Middle East and persistent uncertainty regarding the future direction of the Fed’s monetary policy. However, spread movements diverged between the European and US high-yield markets: the HY€ spread tightened by 5 bps, whilst the HY$ spread widened by 10 bps. This divergence reflects, in particular, the European market’s lower exposure to issuers linked to the data centres and artificial intelligence sectors.
High-yield strategy
Once again, geopolitical tensions in the Middle East have taken centre stage in the news. Following the preliminary agreement reached in mid-June between Washington and Tehran, Trump declared the agreement null and void in early July, leading to renewed hostilities between the United States and Iran. This latest escalation has reignited fears of disruption to shipping traffic in the Strait of Hormuz and triggered a sharp rise in energy prices.
The price of a barrel of Brent crude rose from $73 to nearly $95 during the month before closing at $88, up 20% over the month of July. At the same time, ongoing tensions between Russia and Ukraine, as well as concerns linked to the El Niño phenomenon, also underpinned agricultural commodity prices.
Against this backdrop of renewed inflationary pressures, bond markets experienced a widespread correction. As expected, the Fed kept its key interest rates unchanged, but Kevin Warsh’s comments left investors with little real clarity on the future path of US monetary policy.
This uncertainty, combined with rising energy prices, led to a marked steepening of the US yield curve. The 30-year yield rose to 5.27%, its highest level since 2007. In Europe, the ECB also kept its interest rates unchanged, whilst suggesting that a further rate rise in September remained likely. European government bond yields followed the global trend, with the German 10-year yield rising by +35 bps to 3.21%, a level not seen since 2011.Equity markets, meanwhile, were dominated by a reassessment of the investment theme linked to artificial intelligence. Concerns regarding valuations in the technology sector, the scale of investment required and rising competition from China led to a sharp correction in semiconductor-related stocks. The Philadelphia Semiconductor Index fell by 20.6%, recording its sharpest monthly decline since 2008.
Despite this correction in the technology sector, the sector rotation observed within the equity markets enabled more diversified indices to hold up better. The S&P 500 thus ended the month virtually unchanged (-0.1%), whilst the Stoxx Europe 600 rose by +1.3%, supported by more resilient than expected European growth and the fall in oil prices seen towards the end of the period.In this environment, characterised by a sharp rise in sovereign yields, the high-yield market posted negative returns over the period, despite limited interest rate sensitivity of around 3, with the HY$ index falling by -0.42% (hedged in EUR) and the HY€ index slightly outperforming its US counterpart at -0.34%.
High carry continues to support the asset class, even though the rise in sovereign yields has impacted performance and movements in high-yield risk premiums have diverged between the HY€ (-5 bp) and the HY$ (+10 bp), the latter being more exposed to the AI data centres theme (around 3% exposure compared with just 0.5% in Europe).
High-Yield risk premiums remain close to historic lows, reflecting a market that continues to prioritise broadly sound corporate fundamentals and a still-moderate default rate.In the short term, ongoing geopolitical tensions and volatility in interest rates remain sources of uncertainty and could contribute to a widening of risk premiums, particularly in the HY€ segment, which has held up particularly well this year, tightening by -5 bp, whilst the HY$ segment has widened by +4 bp.Within our hold-to-maturity strategies, we have continued to deploy new investments, taking advantage of a primary market that remains buoyant, particularly in Europe, and a still attractive secondary market, notably in the telecommunications sector.
Across our benchmarked strategies, we have slightly increased our exposure to HY$ at the expense of HY€ and we are maintaining our positioning from the previous month, with an overweight in interest rate risk and an underweight in credit risk.