Europe looks cheap, so what’s the catch?

February 6, 2025

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In his latest column on the key developments, themes and opportunities in credit markets, Ian Horn shines a light on how investors can capture the spread premium in the European investment-grade market.

Last year, European investment-grade spreads tightened in 8 months out of 12. In the US, spreads tightened in 11. A month into 2025, US investment grade spreads are close to their post-financial crisis tights. And although European spreads still offer a premium over the US, this has narrowed in the early weeks of the year.

We expect the European spread premium to persist in 2025 - it is one reason for our significant allocations to the region despite its weaker economic outlook compared to the US. We also see more thematic opportunities in Europe, thanks to the more fragmented nature of the Eurozone economy and sector dynamics that are unique to the region.

As Figure 1 shows, this spread premium has been a distinct feature of investment grade markets since the start of 2022.

Short and sweet

Figure 2 illustrates the current spread premium by duration, excluding financial issuers. We exclude the financial sectors here (banking, insurance, and financial services) due to the structural differences in these sectors, making a simple comparison between the US and Europe less meaningful.

We can see that the largest spread premia in Europe can be found in shorter-dated credit, with longer-dated credit actually trading tighter than the US. Relative tightness in the long-end can partly be attributed to a higher-quality bias in Europe, with BBBs only representing 38% of the 10+ year market versus 49% in the US and a larger allocation to defensive sectors such as utilities. 

Nonetheless, the message is clear – investors considering an allocation to European IG on a spread premia basis will find more opportunities in shorter-dated bonds.

Broad based or sector specific?

Figure 3 shows how spread premia compare across sectors. Real estate still offers the largest spread premium in Europe, despite the sector’s strong performance in 2023 and 2024. And while some sectors offer a significant premium over their US counterparts , Europe’s cheapness is relatively broad-based with only three sectors trading tighter.

Our conclusion, which is reflected in our portfolio positioning, is that Europe’s spread premium presents more opportunities for short-dated strategies.

While this premium is broad-based, it is skewed to more challenged sectors such as real estate and autos. We believe it is easier to make a case to allocate to these sectors in short-dated bonds, compounding the value in Europe for this type of strategy.

 

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. References to specific companies are for illustrative purposes only and does not reflect the holdings of any specific past or current portfolio or account. The opinions expressed by Muzinich & Co. are as of February 2025, and may change without notice.

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Index descriptions

CF0X – The ICE BofA US Non-Financial Corporate Index tracks the performance of non-financial US dollar denominated investment grade corporate debt.

EN00 – The ICE BofA Euro Non-Financial Index tracks the performance of non-financial EUR denominated investment grade corporate debt publicly issued in the eurobond or Euro member domestic markets.

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