Forecast For Defaults Worsens In All Regions
New York, NY – The outlook for credit spreads over the next three months im-proved in the latest quarterly IACPM Credit Outlook survey, especially in Europe. The IACPM Credit Spread Outlook Index for European investment grade debt rose to 25.6 in the survey taken at the end of the first quarter compared to negative -5.1 at the end of the fourth quarter last year. The Index for high yield debt improved to 18.4 from 2.6. The overall IACPM Credit Spread Outlook Index, which includes North America, Asia and Australia, as well as Europe, rose from 1.8 to 14.6.
At the same time, however, the outlook for defaults worsened in every region of the world, including Europe. The Aggregate IACPM Credit Default Outlook Index, which forecasts defaults over the next 12 months, fell to minus -14.6 in the latest read-ing from a positive 4.5 at the end of last year. The Index fell from 14.2 to minus -4.4 in Europe and minus -11.2 in Asia to minus -47.4.
“It’s a bit counter intuitive that the outlook for spreads can tighten while the outlook for defaults gets worse but it’s actually normal at this point in the credit cycle,” commented Som-lok Leung, Executive Director of the IACPM. “We have been recov-ering from the last recession for a long period and at some point interest rates will go up, causing more companies to run into trouble. At the same time, however, as rates remain low, spreads can continue to tighten.”
The improved outlook for credit spreads in Europe is pronounced, as well as cyclical. Europe was especially hard hit during the financial crisis and is now bouncing back from a deep hole. Survey respondents note, however, while the short term outlook for spreads in Europe has improved, structural problems remain unresolved, posing significant risk over the long term.
To a greater or lesser extent around the globe, portfolio managers, as well as investors in general, are grappling with the same dichotomy. Short term prospects appear favorable, or at least, benign but, longer term, the risk of rising defaults is substan-tial. Market participants have to balance short term tactical considerations with longer term strategic ones.
“The risk is clear. If you hedge your position today, you could suffer mark-to-market losses as spreads tighten. On the other hand, if you don’t hedge, you could be exposed to even bigger problems when defaults finally do rise,” said Mr. Leung. “As one of our members points out, if you have a short term tactical reason to hedge now, it could be a win-win. You’d be protected now, as well as in the future.”
The credit outlook survey is conducted among members of the International Association of Credit Portfolio Managers, which is an association of credit portfolio managers at 93 financial institutions located in 17 countries in the U.S., Europe, Asia, Africa and Australia. Members include portfolio managers at many of the world’s largest commercial banks, investment banks and insurance companies, as well as a number of asset managers. Members are surveyed at the beginning of each quarter.
Survey results are calculated as diffusion indexes, which show positive and negative values ranging from 100 to minus -100, as well as no change which is in the middle of the scale and is recorded as “0.0.” Positive numbers signify an expectation for improved credit conditions, specifically fewer defaults and narrower spreads, while negative numbers indicate an expectation of deterioration with higher defaults and wider spreads.
Please click here to access a selection of aggregated survey data.
The full aggregated survey results will be published with a 6 months time lag in the members only section of our website. Please click here to access prior quarters’ survey results.
The IACPM, with 93 member institutions located in 17 countries, is a professional association dedicated to the advancement of credit portfolio management. Founded in 2001, the organization’s programs of meetings, studies, research and collaboration are designed to increase awareness of the value and function of credit portfolio management among financial markets worldwide, and to discuss and resolve issues of common interest to its members.