April 1, 2025
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Despite uncertainty stemming from the US administration’s economic policies, US investment grade credit continues to show resilience. Anthony DeMeo and Eric Schure explain why they believe it remains a compelling allocation in an uncertain world.
At U$S8.7 trillion, the US investment grade (USIG) corporate bond market is one of the largest and most liquid in the world with maturities ranging from 1-100 years (the most liquid being up to 40 years).1 For investors, it can potentially offer higher yields than US Treasuries and steady income.
Its constituents include household names across a range of sectors, while the investment grade rating provides investors comfort around default risk. Yet given the recent gyrations in credit and equity markets, with early year forecasts for US economic activity in flux, could this change the outlook and investment case for USIG?
Cutting through the noise
Until recently, there were few major concerns over the US economy. However, incessant headline noise around tariffs and inflationary pressures have caused estimates for real GDP growth to fall.2
Equities have felt the brunt of the volatility with the S&P falling 10% from late February to mid-March, the seventh-fastest correction since 1929.3 Some commentators may argue equities were overdue a correction, which has coincided with expectations of lower growth. Yet USIG has proven resilient with relatively contained spread moves.1
Looking ahead, investors will need to assess the consequences of an administration focused on boosting long-term economic growth and domestic consumption. While tariffs could cause a short-term shock, we believe they are unlikely to create a long-term structural rise in inflation. As Federal Reserve Chair Jerome Powell recently stated: “It can be the case that it’s appropriate to…look through inflation if it’s going to go away quickly… if its transitory.”4
The Trump administration is attempting to reverse the previous regime’s policies, which promoted structural inflation via massive fiscal stimulus (largely in response to the shock caused by the COVID-19 pandemic). Over the medium term, we believe any fall in demand caused by tariffs will cap inflationary pressures and stabilise growth, which should ultimately benefit risk assets. USIG corporates are potential beneficiaries of such policies given their structural importance as among the largest and strongest companies in the country.
Rates take the (return) driving seat
Reshaping the US economy will take time and likely result in a short-term deceleration in GDP growth alongside interest rates, which should also benefit USIG.
On a spread basis, the market is quite rich given compression across all credit sub-asset classes over the past two years (recent widening notwithstanding). When volatility is suppressed, complacency is elevated, meaning USIG can offer investors a ‘best house on the worst street’ type refuge during periods when volatility increases. This theme has come into play recently given the relatively limited spread widening in USIG compared to the more extreme moves in equities and, to a lesser extent, US high yield.
Volatility-adjusted spreads are also compressed, meaning total return needs to be driven by other sources such as coupon income and carry. The significant repricing of US rates versus other global markets and opposing forces of stimuli (Europe is increasing fiscal spending while the US is pulling back), provides the additional allure of positive return convexity from US rates as a primary return driver.
Historical data suggests rate sell-offs are often followed by strong rallies, presenting tactical entry points. The rate of change in the 30-year US Treasury yield versus earnings yield indicates USIG is currently inexpensive (Figure 1).
For non-USD investors, hedging costs also need to be considered, especially given the recent rise in US dollars versus euros. This may be relevant over the short-term and for short-duration bonds. However, as we saw just before 2020, when hedging costs exceeded 3% and reduced the attractiveness of USIG, it excluded the potential for a significant total return from rates during a risk-off event. This highlights the true appeal of USIG lies in its full-duration exposure.
Strength in fundamentals and technicals
Both the fundamental and technical aspects for USIG are strong. Fourth-quarter earnings were strong, with 65% of announcements beating expectations.5 Leverage is low, and cash flow and interest coverage ratios remain healthy and stable given management teams have shown consistent discipline since the pandemic. This is reflected by upgrades outpacing downgrades over the last 5 years (Figure 2), and rising stars outnumbering fallen angels.6
The Trump administration’s focus on strengthening domestic industries could also prove supportive for USIG. Chipmaker and artificial intelligence giant Nvidia recently announced a plan to invest billions on developing its US supply chain, following Apple’s domestic investment announcement of US$500 billion, among others.7
At the same time, the market is growing (Figure 3). Last year saw significant issuance,8 a theme we expect to continue in 2025. January alone saw a record US$200 billion of deals printed.9
Nevertheless, technicals remain the key driver of the market. While recent volatility induced spread widening, it was relatively contained and consistent inflows brought spreads back down. With rates highlighting an attractive entry point into USIG, we may see equity investors move back into the asset class to capture attractive yields.
Risk: References to specific companies is for illustrative purposes only and does not reflect the holdings of any specific past or current portfolio or account.
We are also seeing continued demand from long-term investors such as pension funds and insurers, which can get a higher return per unit of risk in USIG than in equities. While collateralised loan obligations and private credit may offer a higher premium, they are less liquid and the so-called ‘illiquidity premium’ has fallen. This could result in private market investors reallocating to public markets, attracted by yields, liquidity and greater transparency. We are also seeing persistent demand from overseas yield buyers in regions such as Asia.
In terms of net supply, 2025 will see significant refinancing of bonds issued during COVID-19,10 while the next three years could see an estimated US$7.6 trillion of maturities refinanced.11
Forget about spreads, focus on yields
While spreads are compressed, looking at long-term all-in yields on a percent rank basis (with 100% being the cheapest) show a compelling case for USIG versus other asset classes (Figure 4).
In addition, today’s starting yields have historically led to positive returns in the following years (Figure 5). Historically, it has been rare to see negative returns from this starting point.
Where’s the value?
Given macro uncertainty, bearish views from market participants reinforce our preference for rates over high-beta spreads. A defensive approach makes sense in such an environment, limiting exposure to consumer-related sectors including retail, autos and metals. Even energy is likely to be volatile - especially in sub-sectors like exploration and production that are tied to oil, or metals that could see pressure given their reliance on international demand.
Instead, we see opportunities in domestically oriented, consumer non-discretionary sectors such as healthcare, telecoms and technology. We are also shifting into higher-quality and longer-duration bonds to provide insulation from deteriorating sentiment and economic data.
Any signs of economic weakness could present a buying opportunity. But investors must account for unforeseen risks — the ones that tend to really move markets.
A sustained escalation of tariff and trade tensions could create severe global systemic pressure, far beyond what we are seeing now. We believe there is currently a lot of optimism regarding what this administration can achieve; if those expectations are not met, the market could experience a harsh adjustment.
Balancing act
Overall, we believe USIG remains attractive for investors seeking stability and reliable income in an uncertain environment. With robust fundamentals and cash flows and historically low leverage, USIG issuers look well-positioned to navigate macroeconomic challenges.
The potential for rate-driven total returns, combined with the market’s technical strength, further supports the investment case. Although compression has limited excess spread potential, yields remain compelling with the additional opportunity for capturing convexity through rates positioning.
While sectors with significant international exposure and consumer discretionary companies may face headwinds, we see more promising opportunities in domestically oriented sectors such as healthcare, telecoms and technology. For investors, longer-duration and high-quality US IG strategies can be a good portfolio anchor and act as a hedge against volatility.
References
1. ICE Data Platform, ICE BofA US Corporate Index (C0A0), as of 17th March 2025.
2. Federal Reserve Bank of Atlanta, GDP Now, as of 17th March 2025.
3. Bloomberg, as of 13th March 2025. “Stocks tumble into correction as Trump policies roil sentiment”
4. Bloomberg, as of 20th March. “Powell downplays growing risks, sees tariff impact as transitory.”
5. FactSet, ‘Earnings Insight,’ as of March 7, 2025.
6. S&P Global Ratings, Investment Grade Credit Check Q1 2025, as of January 31st 2025.
7. Financial Times, as of 20th March 2025 “Nvidia to spend hundreds of billions of US supply chain, says chief”
8. Goldman Sachs, Companies may issue US$1.15trn of US bonds in 2025, as of 23rd October 2024.
9. Bloomberg, as of 6th Feb 2025
10. Market Watch, as of 29th October 2024. “A big pandemic-era IOU is coming due after the US election”
11. S&P Global Ratings, Investment Grade Credit Check Q1 2025, as of January 31st 2025.
This material is not intended to be relied upon as a forecast, research, or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed by Muzinich & Co are as of April 2025 and may change without notice.
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Index descriptions
C0A0 - The ICE BofA US Corporate Index tracks the performance of US dollar denominated investment grade corporate debt publicly issued in the US domestic market. Qualifying securities must have an investment grade rating (based on an average of Moody’s, S&P and Fitch), at least 18 months to final maturity at the time of issuance, at least one year remaining term to final maturity as of the rebalancing date, a fixed coupon schedule and a minimum amount outstanding of $250 million.
GA30 - ICE BofA Current 30-Year US Treasury Index (GA30) ICE BofA Current 30-Year US Treasury Index is a one-security index comprised of the most recently issued 30-year US Treasury bond. The index is rebalanced monthly. In order to qualify for inclusion, a 30-year bond must be auctioned on or before the third business day before the last business day of the month and settle before the following calendar month end.
ICE BofA AAA US Corporate Index (C0A1) ICE BofA AAA US Corporate Index is a subset of ICE BofA US Corporate Index including all securities rated AAA.
ICE BofA AA US Corporate Index (C0A2) ICE BofA AA US Corporate Index is a subset of ICE BofA US Corporate Index including all securities rated AA1 through AA3, inclusive.
ICE BofA Single-A US Corporate Index (C0A3) ICE BofA Single-A US Corporate Index is a subset of ICE BofA US Corporate Index including all securities rated A1 through A3, inclusive.
H0A0 – The ICE BofA US High Yield Index tracks the performance of US dollar denominated below investment grade corporate debt publicly issued in the US domestic market. Qualifying securities must have a below investment grade rating (based on an average of Moody’s, S&P and Fitch), at least 18 months to final maturity at the time of issuance, at least one year remaining term to final maturity as of the rebalancing date, a fixed coupon schedule and a minimum amount outstanding of $250 million.
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