Our investment professionals share and challenge each other’s views, creating a diverse marketplace of ideas for the Wellington Blog.
In my 2020 insight, “Debunking four common myths about CLOs,” I highlighted what I saw at the time as compelling value in several tranches of the collateralized loan obligation (CLO) market. Looking at recent CLO spreads and valuations, I believe that remains the case as of this writing.
CLO spreads rebounded quickly from last year’s COVID-19-induced sell-off. Despite spread tightening across the capital structure over the past year, I still find CLOs attractive versus competing asset classes, such as corporate credit (Figure 1)…
…especially in light of my positive outlook for CLO fundamentals. As the market has recovered, the underlying bank loan collateral credit metrics have…
The number one question most cash investors are asking themselves (and us) these days is: How long are we going to be stuck in this “zero-bound” range for short-duration interest rates? Here are our latest thoughts on that and related matters.
The widespread economic fallout from the COVID-19 crisis dealt a formidable challenge to many municipal bond issuers’ ability to maintain and improve their credit quality. Given the need for state-level lockdowns and the subsequent realization that a return to pre-pandemic activity would take much longer than anticipated, the outlook as of mid-2020 pointed to an extremely trying period for the municipal bond market.
However, a combination of factors came together over the course of the year that led to more benign conditions than initially feared and set the stage for many better-than-expected credit outcomes. While some municipal credits have been downgraded since the pandemic began, most have…
As investors scrutinize sky-high prices in some areas of today’s equity market, comparisons with the dot-com bubble of the late 1990s are common. Having lived through both periods, I see some important differences between the two environments, as well as some potential lessons from the dot-com sell-off.
Obviously, the heat and light of the bubble we saw in 1999 was the internet sector, with established players and startups trading at crazy valuations that often were not linked to earnings, cash flow, or even revenue. A tidal wave of oversubscribed IPOs was a big part of the picture as well. However, I would argue that the broader market was…
Commentators have written extensively about the recent surges in various pockets of the equity market — most recently, in heavily shorted stocks. Given the complexity and opacity of this market segment, the breathtaking moves left many investors understandably unsettled. While there is still more to learn about the volatility unleashed by the so-called “short squeeze,” for now, I’d like to address some client questions about the episode and attempt to put it in a larger context.
A group of retail investors identified a handful of beaten-down stocks deemed to be “COVID losers” and went long these companies, both outright and on a leveraged basis via options. Positive investor sentiment in combination with thin market liquidity drove the stock prices higher. Call options buying accelerated the upward climb, as banks (which sold the options) had to…
In my August 2020 blog post, I highlighted a potentially compelling return opportunity in the often-scorned universe of “fallen angels” — formerly investment-grade-rated corporate bonds whose ratings have been downgraded to high-yield (i.e., below-investment-grade) status by major credit rating agencies. I noted that, within two years of being thus downgraded, fallen angels as a group have handily outperformed the broader US high-yield index (and all three of its quality subgroups) over the long term.
Fast forward to early 2021: What I call the “fallen-angel effect” appears to have lost none of its luster. And notably, my latest research revealed that it’s not limited to just…
I call it: “Cheap US equities: the low-rate adjustment.”
The strong post-March 2020 rebound in US equity prices rekindled rumblings about stretched or even “bubble-like” valuations. Myriad metrics can be rolled out to suggest “excessive” price levels, but how often do these arguments account for the broader investing landscape — inclusive of interest-rate expectations and the relative risk/return offered by US Treasuries? I believe they should.
One way to think about the relative value and appeal of equities is to look through a fixed income lens with a focus on risk-free rates. For the past decade, US stocks have remained cheap relative to Treasuries because…
The current state of global equity markets is one of the frothiest I can find historically, in terms of both long-term valuations and short-term sentiment. Of course, there’s a compelling story behind this: Central banks are distorting asset prices, rendering traditional valuation metrics unreliable. Aided by this monetary (and fiscal) support and the likelihood of economies opening up later this year, 2021 should be a year of strong growth. And a long series of inflation undershoots means monetary policy likely won’t tighten on a near-term growth pickup.
These are earmarks of a classic “Goldilocks” scenario. It’s a powerful narrative for asset prices and, frankly, one that’s hard to refute. Yet it’s become more and more consensus. When investor optimism is running this high, it’s often a good time to pause and at least consider what could go wrong. Here are five potential risks to keep an eye on in the coming months…
Broadly speaking, as of this writing, we believe municipal bond (muni) valuations may offer an attractive entry point for discerning investors. As of December 2020, municipal credit spreads had yet to make up for ground lost to the COVID-19 sell-off earlier in the year (Figure 1). Lower expected 2021 tax-exempt supply and strong retail demand suggest there is room for further spread tightening.
Having said that, challenges remain. Fundamentals in some areas of the muni market continue to be tested by the COVID-induced economic slowdown. Accordingly, deep credit research remains critical in this space. Let’s take a closer look on a sector-by-sector basis.
2020: Lessons learned
In this 25-minute video, Geopolitical Strategist Thomas Mucha, Macro Strategist Michael Medeiros, and Multi-Asset Strategist Nanette Abuhoff Jacobson explore the investment implications of Biden’s domestic and foreign policy agenda and opine on which asset classes, factors, and industries they expect to outperform in this new environment.
With the prospect of a Democratic sweep looking more and more plausible with each passing day leading up to the US election, some observers note that such an outcome could usher in major policy shifts in taxation, health care, energy, and perhaps tech regulation for 2021 and beyond. Should investors start repositioning their portfolios accordingly? Not so fast.
I tend to be skeptical of government policy-driven trades playing out to the extent that financial markets often anticipate. Indeed, there have been several political changes in recent years whose impact on assets has turned out to be fleeting and, in some cases, just the opposite of…
The short answer is that they up and left, at least judging by the percentage of value managers (80%) that were recently underweight value stocks (Figure 1). Some observers may offer reasonable arguments for why such positioning seems justified in the current environment, but the fact is that value equity managers have traditionally tended to lean into relative valuation extremes like today’s. Instead, most are leaning away.
This calls to mind a 20-year-old quote from retired Wellington Portfolio Manager Ed Owens that is relevant again today. In January 2000, Ed opined that “value is particularly attractive now, because it has…
With the US elections only a few weeks away and Democratic nominee Joe Biden holding onto a comfortable lead in most polls, the prospect of a so-called “blue-wave” scenario — where Democrats win the White House and seize control of both houses of Congress — looks more and more plausible with each passing day. (Granted, polls are notoriously fickle and a few weeks is an eternity in politics; anything could still happen between now and November 3.)
Many investors are wary of a blue-wave outcome, fearing it would spell bad news for the US economy and markets. But would it really? After taking a closer look…
While the UK equity market appears attractively valued and has the potential for a rebound, I remain neutral on UK equities for now as I believe the uncertain political outlook provides a poor basis for active risk taking. In essence, the outcome of the Brexit negotiations is hard to judge, and a non-cooperative outcome could prove highly disruptive for the UK economy and equities. In my view, this risk is not priced into the market at present.
The UK’s health and economic outcomes have been in line with the worst in Europe, and managing this twin crisis will remain problematic in the near term. At the same time, the UK faces longer-term challenges, such as changes in the migration framework, a sharp rise in minimum wages and the perennial issues of low productivity growth and a large current-account deficit. Together, these near-term and structural challenges create a…
While economic activity is likely to recover slowly in the euro area, I believe the risk of a much worse outcome has abated. Improved macroeconomic policy should lead to a stronger recovery, driving further reductions in the valuation gap between US and euro-area stocks.
The COVID-19 crisis has caused a deep recession in the eurozone, and I don’t expect activity to return to end-2019 levels until mid-2022. A recession of this magnitude leaves many kinds of economic scars. Jobs and businesses are destroyed, and the necessary reallocation of labour and capital is expensive and takes time. Balance sheets are damaged as a result of falling incomes, and the continued uncertainty constrains investment and consumption.
On the plus side, I believe Europe’s management of the health crisis and the economic policy response have been strong enough to substantially reduce downside risks to…
In my last blog post, dated 8 July 2020, I opined that the US equity bull market was “back, broad, and bold.” With the S&P 500 Index now up more than 50% from its March 23 low, I think that description more or less remains accurate as the summer winds down.
The market’s seemingly relentless march higher naturally begs the question of whether or not an equity bubble has formed. A lot of ink has been spilled in that direction lately, with many commentators (including some of my own colleagues) suggesting that we may indeed be in an equity bubble akin to that of 1999.
A large cohort of market participants appears to agree: The percentage of bearish respondents to the weekly AAII Investor Survey has stayed atop the 40% threshold long enough that its 40-week average is now at levels not seen since 2009. (Prior to that, it was in 2002 and 1990.) Interestingly, that 40-week average actually…
As I observed in my January 2020 publication, “The lost decade for commodities”, the roll yield1 — the cost of carry, or the return associated with “rolling” a short-term futures contract into a longer-dated contract — has been a persistent headwind for commodities over the past decade. In fact, negative roll yields were the leading detractor from commodities’ performance during the 10-year period ended 31 December 2019.
But history shows that the roll yield hasn’t always exerted such a drag on the asset class. On the contrary, looking at commodity returns by decade, roll yield was actually a positive contributor to the performance of the S&P Goldman Sachs Commodity Index in the 1970s and 1980s and only modestly…
As the drivers of counterparty risk continue to evolve, it stands to reason that best practices to manage this risk must adapt accordingly. The COVID-19 crisis underscores this inescapable reality. Indeed, failure to do so may amplify counterparty risk exposures and lead to poor decision making during the next financial crisis, whenever that may be.
As the global COVID-19 pandemic took hold in March 2020, an unprecedented counterparty risk environment unfolded:
Multiple US companies have now bounded through the previously unpenetrated US$1 trillion market-capitalization ceiling. In our view, the size of these ‘mega-cap’ companies could make future growth more difficult to come by compared to their midsize counterparts. The select group is now made up of four companies — Microsoft, Apple, Amazon, and Google — with an average market cap for the group of US$1.4 trillion. It sounds like a big number, but how much is a trillion dollars?
Although one trillion is already a large market-cap milestone, for investors to continue to make high returns from here, the numbers need to…
The US hospital sector saw a substantial direct impact from COVID-19, primarily via the sharp decline in elective medical procedures, but also received significant aid from the Coronavirus Aid, Relief, and Economic Security (CARES) Act. So what now?
Ultimately, the performance of hospitals — and the municipal bonds (munis) they issue — will depend on the severity and duration of the current health crisis. We expect diminished revenues for the remainder of 2020, although many hospitals are cutting costs and deferring capital spending to help offset this. We believe hospitals with strong balance streets and fundamentally viable operations are best positioned to weather the crisis; for weaker hospitals, ratings downgrades are likely.
Coming into the pandemic, financial performance across the US hospital sector was largely stable. Most health care providers were managing through various sector headwinds, thanks to…
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