We began the year recognizing that the fundamental investing landscape had dramatically shifted. We related to this new investing paradigm through Hitchcock’s lens of Vertigo in the first quarter, as many of the market’s characteristics continued to send mixed messages to investors but simultaneously did not show signs of a slowdown. We now find ourselves halfway through 2021 and we will use this letter to spend some time reflecting on the evolution of the credit markets. In particular, we have been reflecting back on how the last sixteen months have transformed the structure of the markets as the global economy finds its footing amidst a new era of policy that has a higher reliance on government intervention on the fiscal side and reflationary strategies on the monetary side. This quarter we will continue our Hitchcockian analysis, once again taking a cue from the “Master of Suspense.” Hitchcock did not rely on cheap jump scares but rather the slow burn of anticipation. Similarly, we believe this market will continue to keep investors on their toes, especially as the Fed gets closer to tapering and reflationary trends continue. Despite the positive tailwinds of rapid growth we are currently experiencing, we want to highlight and caution that this is a new chapter in history. We cannot discount the impact of higher than anticipated inflation on corporate margins, labor and wages, as well as cost of goods. Akin to a Hitchcock plot, we do not know with certainty what the future holds as we look to manage life with virus variants and an increasing role of big government.
The market continued to bounce back with sustained appetite for risk assets and momentum through the reopening trade. U.S. High Yield returned +2.77%1 and U.S. Bank Loans +1.47%2 for the second quarter as of June 30, 2021. The quarter was another strong showing for credit markets with yields now squarely at pre-Great Financial Crisis (“GFC”) tights and spreads continuing to grind tighter: U.S. High Yield spreads ended the second quarter at 304bps.3 We believe the market probably continues to creep tighter in the near-term and that now is the time, more than ever, to shift an investor’s portfolio composition to take advantage of what we like to call the “New Active” as this recovery will look different from others in history.
1 ICE BofAML as of 06/30/21
2 S&P LSTA as of 06/30/21
3 ICE BofAML, S&P LCD and KKR Credit Analysis as of 06/30/21