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European institutionals 'immature' in assessing high-yield bond risk

EUROPE - European investors are still “immature” when assessing risk in the high-yield bond sector, but their rapid move into investment-grade debt should help them to “think rationally” about the asset class, according to Threadneedle.

Barrie Whitman, executive director of high yield at the asset manager, said banks currently provided approximately 75% of European corporate debt, but that this would change over the next 5-10 years as companies increasingly sought alternative sources of financing.

Whitman said there was growth in both the investment grade and the high-yield bond markets, but “only from institutional demand”, which he said would grow over the next three years, if a severe recession could be avoided.

He also said Europe should not worry about the supply of corporate debt in the region, as any surplus would “dissipate to the US”, where institutionals have had much more experience in investing in corporate debt.

“Institutionals have a tradition of investing in fixed income, and they only think that credit risk is different, but, in fact, they have been taking credit risk without knowing it,” Whitman said, pointing to underestimated sovereign debt risks.

He said he saw more talk than action about high yield among institutional investors at the moment, but he noted that, in recent months, fund flows into the sector have been “definitely more inflows than outflows”.

For high-yield issuers, he sees a challenging but much more manageable market ahead, as they have already deleveraged and entering the next economic slowdown with much improved financial fundamentals.

Whitman said he expected to see “real bargains” over the next couple of years, but that timing would be important for determining whether issuers or buyers would set prices.

Regarding Europe, he stressed that corporate debt was the “only way out” of poorly structured balance sheets, which led to a “high dependency on liquidity”, especially among investment-grade companies.

He added: “They had a lot of short-term financing because they had been offered crazily cheap lending in an overbanked Europe, but, three years ago, something happened they had never considered - they had no access to banks and the capital market.”
 

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