skip navigation

Blog

Stay up to date on timely topics and market events. Subscribe to our Blog now.

STRATEGY
20 July 2021

The Reopening Trade Still Has Legs

By Robert O. Abad

Stay up to date on timely topics and market events. Subscribe to our Blog now.

Market nervousness around another global COVID-19 flareup has brought into question the sustainability of the economic reopening trade, and rightly so. Over the last 12 months, sectors such as airlines, cruise lines, hospitality and some segments of retail—all were initially written off during the peak pessimism period of 1Q20—have stormed back, producing handsome gains for those fixed-income investors who saw the deep value potential of those sectors. Now these hard-fought gains appear to be at risk.

In our view, we don’t think a material pullback is likely in these reopening sectors, but should we experience another market panic similar to that of March 2020, we would view it as another compelling buying opportunity. This conviction is premised upon the fact that global vaccination rates are markedly higher versus a year ago (which goes a long way to mitigating material spikes in hospitalization and mortality rates) as well as upon the resolve of policymakers and central bankers globally who have yet to remove the aggressive accommodation currently in place. If anything, their rhetoric suggests they will remain highly vigilant to prevent downside growth risks. Both of these macro-level factors temper our concern that we might see widespread lockdowns that threaten to derail the pace of the global economic reopening.

At a micro-level, it bears repeating that with the help of emergency response programs, such as the Federal Reserve’s Primary and Secondary Market Corporate Credit Facilities, companies (in many cases) have adjusted their business models to compete and survive in a post-pandemic reality. Many have significantly fortified their balance sheets by refinancing and extending near-term debt. This helps to explain the continued resilience of corporate credit fundamentals, specifically the sharp decline in default expectations and the uptick in the upgrades-to-downgrades ratio observed in the US high-yield complex. Delta Airlines is an example of one such issuer whose bonds experienced a significant amount of stress during the height of the pandemic, but have since bounced back sharply due to a rebound in business travel and customer acquisition, but also in large part due to active liquidity management. Case in point, after reporting strong Q2 earnings, the airline announced that it would use $1 billion of its accumulated $15.2 billion cash balance to tender for high coupon debt that was issued in 2020.

After Covid‘s asteroid-like impact on global financial markets last year, we’ve been wary of the possibility that one of the many Covid variants making the rounds globally might take hold and rekindle the market panic we experienced in 2020. The possibility of such a risk-off scenario is one key reason why we maintained an overweight to US duration in portfolios throughout the first quarter and added to our position as yields rose and the curve steepened (on the back of the market’s singular and euphoric focus on growth and inflation). The behavior of the US rate market year to date continues to reaffirm our long-held view that US Treasuries remain the best diversifying hedge against spread risk in broad market and multi-asset credit portfolios.

For now, we maintain our constructive stance on corporate credit due to favorable fundamentals and supply-demand technicals, and continue to position for a reopening trade. We remain overweight certain cyclical sectors including airlines, cruise lines and select retail segments complemented by a higher quality bias in less cyclical subsectors that provide ballast in portfolios. Should we see a resurgence of market fear that leads to a material widening in credit spreads, we would view that as an opportunity to add exposure to issuers offering solid income and total return potential.

© Western Asset Management Company, LLC 2021. This publication is the property of Western Asset and is intended for the sole use of its clients, consultants, and other intended recipients. It should not be forwarded to any other person. Contents herein should be treated as confidential and proprietary information. This material may not be reproduced or used in any form or medium without express written permission.
Past results are not indicative of future investment results. This publication is for informational purposes only and reflects the current opinions of Western Asset. Information contained herein is believed to be accurate, but cannot be guaranteed. Opinions represented are not intended as an offer or solicitation with respect to the purchase or sale of any security and are subject to change without notice. Statements in this material should not be considered investment advice. Employees and/or clients of Western Asset may have a position in the securities mentioned. This publication has been prepared without taking into account your objectives, financial situation or needs. Before acting on this information, you should consider its appropriateness having regard to your objectives, financial situation or needs. It is your responsibility to be aware of and observe the applicable laws and regulations of your country of residence.
Western Asset Management Company Distribuidora de Títulos e Valores Mobiliários Limitada is authorised and regulated by Comissão de Valores Mobiliários and Banco Central do Brasil. Western Asset Management Company Pty Ltd ABN 41 117 767 923 is the holder of the Australian Financial Services Licence 303160. Western Asset Management Company Pte. Ltd. Co. Reg. No. 200007692R is a holder of a Capital Markets Services Licence for fund management and regulated by the Monetary Authority of Singapore. Western Asset Management Company Ltd is a registered Financial Instruments Business Operator and regulated by the Financial Services Agency of Japan. Western Asset Management Company Limited is authorised and regulated by the Financial Conduct Authority (“FCA”) (FRN 145930). This communication is intended for distribution to Professional Clients only if deemed to be a financial promotion in the UK as defined by the FCA. This communication may also be intended for certain EEA countries where Western Asset has been granted permission to do so. For the current list of the approved EEA countries please contact Western Asset at +44 (0)20 7422 3000.