KEY TAKEAWAYS

  • MAC portfolios have steadily navigated the market’s differing views on growth, inflation and the path of interest rates, actively searching for relative value across global credit markets.
  • We think the demand for compelling income solutions such as MAC will reassert itself in the coming year.
  • Currently, MAC portfolios favor bank loans and high-yield corporate credit on the view that key fundamental metrics such as leverage, cash flow coverage and defaults are on an improving trajectory.
  • Our representative MAC portfolio is yielding 5.4%, which appears attractive when compared with other single-sector benchmark yields and government bonds.
  • Portfolio duration currently sits at four years, though this figure fluctuates in line with Western Asset’s views on rates.
  • We expect 10-year USTs to be range-bound between 1.25%-1.75%, and we maintain a sleeve of tail-risk hedges (where applicable) in the form of option strategies on the S&P 500, which are intended to protect portfolio performance in the event we experience another unforeseen and sustained market dislocation.

Fixed-income markets are closing 2021 in the same way they started the year: with rates caught in the middle of a tug of war over the market’s differing views on growth, inflation and the path of interest rates. Multi-asset credit (MAC) portfolios have steadily navigated this landscape, actively searching for relative value across global credit markets and homing in on income-generating opportunities after last year’s aggressive spread-tightening. While the current quarter will offer up some value opportunities due to rate volatility induced by the Federal Reserve (Fed) and more pandemic-related fears, we think the demand for compelling income solutions such as MAC will reassert itself in the coming year.

From a big picture perspective, we’re still constructive on the global outlook despite the prospect of a sharp reduction in global fiscal stimulus, the reduction in monetary accommodation by the Fed and other major central banks and an anticipated downshift in global growth next year when compared to 2021. The outlook for inflation also remains a challenging issue, especially for policymakers who are also caught up in the “transitory versus permanent” debate. But, in the US, we expect inflation to peak as we move into the New Year and that the impact of supply-chain disruptions in areas such as autos and semiconductors will ease meaningfully through 2H22. While the Fed may be pressured to accelerate its tapering program, we believe it’s important to emphasize that the healing process toward full employment in the US will take time. This should have the effect of delaying the tightening cycle until well into 2022, if not 2023. Regarding the Covid pandemic, we maintain our long-held view that we’re still not out of the woods, as evidenced by the latest concern over the omicron variant. However, rising vaccination rates globally and a lower probability that we might see renewed and protracted lockdowns (similar to what we experienced in 2020) gives us some comfort that the worst is behind us. This, plus strong consumer and corporate credit fundamentals bode well for the continued recovery of reopening sectors, spread sector performance and MAC’s income- and return-generating potential.

Exhibit 1: Monthly Holdings by Sector
Monthly Holdings by Sector
Source: Western Asset. As of 30 Nov 21. Select the image to expand the view.

Looking at current positioning, MAC portfolios favor bank loans and high-yield corporate credit on the view that key fundamental metrics such as leverage, cash flow coverage and defaults are on an improving trajectory. Bank loans also play very well in a rising rate environment and in a market where we don’t expect a lot of spread-tightening. Moreover, bank loans currently offer superior yield and income versus high-yield, which is a technical that doesn’t appear often. This is why we’ve been incrementally adding exposure to this sector over the past year.

Meanwhile, high-yield bonds continue to look attractive, but at spread levels in the mid-300s, we believe the way to approach this segment of the market is to steer clear of names that could result in impairment or default and to instead focus on issuers that offer stable, reliable sources of income. The same applies to investment-grade credit where our allocation is biased toward crossover credits that offer more carry. From a total return perspective, CLO tranches look attractive with BB securities offering yields in the 6%-8% range. In the mortgage credit space, sourcing paper has been a challenge, but we remain patient in building up exposure in subordinated tranches of credit risk transfer issues and in select single-asset, single-borrower deals. The one area that we are monitoring closely is emerging markets, especially local currency-denominated assets, which tend to experience indigestion as US rates and the US dollar break higher. However, in times like these, we do look for idiosyncratic opportunities across USD-denominated sovereign and corporate paper that offer income and spread compression potential.

Exhibit 2: MAC Sector Allocation (%)
MAC Sector Allocation (%)
Source: Western Asset. As of 30 Nov 21. Select the image to expand the view.

As of November 30, our representative MAC portfolio is yielding 5.4%, which is attractive when compared with other single sector benchmark yields and government bonds. Portfolio duration currently sits at four years, but we note that this figure fluctuates in line with Western Asset’s views on rates. Presently, we expect 10-year US Treasuries (USTs) to be range-bound at 1.25%-1.75%. Finally, we maintain a sleeve of tail-risk hedges (where applicable) in the form of option strategies on the S&P 500, which are intended to protect portfolio performance in the event we experience another unforeseen and sustained market dislocation.

Exhibit 3: MAC Investment Performance Since Inception
MAC Investment Performance Since Inception
Source: Bloomberg Barclays, Western Asset. As of 30 Nov 21. Select the image to expand the view.

For more details about our latest economic and investment views, please see both our Global Outlook and Global Credit Monitor, which are updated quarterly with our global team’s views by region, sector and industry.

View the Performance and Risk Disclosures for Multi-Asset Credit.