In 2020, Zurich added corporate bonds to form part of the Prisma multi-asset fund range and as two new standalone fund options for you. As you may know, a corporate bond is debt issued by a company. The investor is effectively lending money to the company in return for a series of interest payments and principal at the redemption date. Publicly issued bonds are actively traded in investment markets, allowing for potential capital appreciation.
A diversified and carefully chosen portfolio is necessary to take advantage of the return potential while managing negative risks. Corporate bonds are typically seen as riskier than government bonds and therefore require a higher rate of interest to compensate the investor for this additional risk. Theory and the historical track record tell us that corporate bonds can play a key role in a balanced investment portfolio. By adding corporate bonds to your investment portfolio you can benefit from the facts that investment grade corporate bonds:
- tend to deliver higher growth than government bonds.
- carry lower volatility than equities and diversify an investors’ overall risk profile.
How has COVID-19 impacted the corporate bond market?
Central Banks have put in place a range of monetary policy and banking supervision measures to mitigate the economic impact of the pandemic. Among these is the €1,850 billion pandemic emergency purchase programme (PEPP), through which the ECB buys eligible corporate and government bonds. In doing so, the ECB is helping to lower borrowing costs while maintaining the flow of credit by banks to firms and households. Additionally, the ECB has increased the amount of money that banks can borrow specifically to make loans to small and medium sized firms, further supporting their ability to withstand the operational impact of lockdown restrictions. These, along with other supports mean that the economic impact on credit quality has been manageable and generally less severe than feared.
Credit rating agencies have taken a proactive and cautious approach to the crisis, placing many sectors on watch or outlook negative. During the first quarter of 2020, many precautionary credit rating actions were taken, however with the introduction of government supports and mitigating actions by companies themselves, the pace of downgrades has slowed. Credit rating agencies have taken comfort from updated earnings reports, which evidence how companies have successfully adapted to their new environment, displaying resilience against uncertainty.
Credit markets performed strongly in 2020, on the back of increased support from Central Banks following the sharp falls seen in February and March. Initiatives such as outright bond purchases, open ended liquidity provision, and regulatory flexibility helped support investor sentiment while materially dampening market volatility. Interest rates are expected to remain at historically low levels, thereby helping to preserve the relative valuation attractiveness of corporate bonds over government bonds. This adds to the structurally supportive backdrop for corporate bonds.
What’s important in 2021?
While pockets of the investment grade corporate bond market appear rich in absolute terms, longer term structural trends are supportive of further spread compression, particularly amongst sectors most aligned to economic recovery.
Helen Dodd, Senior Credit Portfolio Manager at Zurich says “We closely monitor signals of credit quality deterioration as the effects of the COVID-19 crisis unfold, however we also recognise that these should be partly mitigated by the deep policy support and very favourable technical market backdrop.
Overall, we are constructive, but selective across investment grade credit, favouring short term credit as an alternative to cash and carefully selected medium dated exposures as an alternative to government bonds. We maintain an open mind and, as the market focus shifts from virus to vaccine, recognise the potential for volatility. We believe favourable longer-term structural trends are set to continue. As corporations continue to adapt to their new operating environment, we strive to identify the most resilient winners to deliver the best risk adjusted return.
Dispersion in performance is envisaged, and is also likely to be asymmetrical, therefore using a structured investment process to analyse fundamental credit quality and an active management approach are key.”
For more information
Zurich’s Corporate Bond Funds are available as part of the Prisma fund range. The Short Duration Corporate Bond Fund and Medium Duration Corporate Bond Fund are also available as standalone options across the Zurich suite of Pensions, Savings and Investment products.
You can find more information on corporate bonds by speaking to your Financial Broker or visiting our fund section on the website.