Skip to Content
Credit Insights

Risk Asset Prices Rise on Investor Assumption That U.S. Dodged an Economic Slowdown

Prices for risk assets surged higher and prices on safe-haven assets were pummeled.

There was very little significant new news last week, but what news there was, was enough to reinforce investors' assumptions that the United States has dodged an economic slowdown. With this renewed confidence, prices for risk assets surged higher and prices on safe-haven assets were pummeled. Markets plunged lower last November and December as investors were pricing in a sharp economic slowdown; consumer spending had drastically slowed and Chinese economic metrics indicated economic contraction in the world's second-largest economy. However, the markets bottomed out at the end of December after global central banks quickly dialed back on their programs to normalize or tighten monetary policy.

Among the economic metrics released last week, nonfarm payrolls for March increased to 196,000 from the stagnant 33,000 reported in February. Investors were pleasantly surprised as the March report was higher than consensus expectations and near the top of the consensus range. At 3.8%, the unemployment rate remained near its 49-year low and wage growth grew 3.2% on a year-over-year basis, reflecting a tight labor market. Additionally, the Trump administration said it expects to reach a new trade accord with China within the next four weeks. As investors became more comfortable that the economy will continue to chug along and looked forward to trade normalization, risk asset prices continued to rise. The stabilization across recent economic metrics has led to a significant improvement in the Federal Reserve Bank of Atlanta's GDP Nowcast projection for first-quarter 2019 GDP growth. The Nowcast projection has risen to 2.1% after hitting a low of only 0.2% at the beginning of March.

In the corporate bond market, the average credit spread of the Morningstar Corporate Bond Index (our proxy for the investment-grade corporate bond market) tightened 3 basis points to +119. In the high-yield market, the average spread of the ICE BofAML High Yield Master II Index tightened 13 basis points to +386. After hitting their lowest interest rates over the past year, yields on Treasury bonds rose by 8-9 basis points across the curve as prices on Treasury bonds fell. By the end of the week, the yield on 2-, 5-, 10-, and 30-year bonds rose to 2.34%, 2.31%, 2.50%, and 2.90%, In the equity market, the S&P 500 rose 2.06% to a level that is less than 2% away from its all-time highs.

Recent Morningstar Credit Ratings Research
Morningstar Credit Ratings, LLC published a report regarding the impact to business development companies from changes to the Investment Company Act of 1940; these changes, which became effective in March 2018, allow BDCs to increase leverage. According to our calculations, we estimate that 81% of publicly traded BDCs have already received board approval to decrease their required asset coverage ratio to 150% from 200%, which effectively would allow them to increase their debt/equity ratios to a maximum of 2.0 times from 1.0 times under the prior regulations. As a result, we calculate that these BDCs may issue up to $32 billion of additional debt as they increase their target leverage ratios. For credit investors, we view the movement toward increased leverage in the BDC sector as largely negative. However, the negative implications may be partially offset by positive impacts, such as increased investment diversification, higher profitability, or the creation of larger cushions between reported leverage and regulatory limits.

Weekly High-Yield Fund Flows
Investors came flooding back into the high-yield asset class last week as inflows reached their third-highest weekly amount over the past year. Total inflows into high-yield exchange-traded funds and high-yield open-end mutual funds reached $2.7 billion, consisting of $1.7 billion of net new unit creation across high-yield ETFs and $1.0 billion of inflows into high-yield open-end mutual funds. Year to date, total inflows into the high-yield asset class are $14.4 billion, consisting of $8.3 billion worth of net unit creation among high-yield exchange-traded funds and $6.1 billion of inflows across the high-yield open-end mutual funds. If this rate of inflows continues, it will soon surpass the amount of funds that were withdrawn from the high-yield asset class last November and December.

Morningstar Credit Ratings, LLC is a credit rating agency registered with the Securities and Exchange Commission as a nationally recognized statistical rating organization ("NRSRO"). Under its NRSRO registration, Morningstar Credit Ratings issues credit ratings on financial institutions (e.g., banks), corporate issuers, and asset-backed securities. While Morningstar Credit Ratings issues credit ratings on insurance companies, those ratings are not issued under its NRSRO registration. All Morningstar credit ratings and related analysis contained herein are solely statements of opinion and not statements of fact or recommendations to purchase, hold, or sell any securities or make any other investment decisions. Morningstar credit ratings and related analysis should not be considered without an understanding and review of our methodologies, disclaimers, disclosures, and other important information found at https://ratingagency.morningstar.com.