
Navigating a credit conundrum. At the start of 2Q26, we moved from an overweight to a neutral stance on fixed income, weighing two considerations. Yields were attractive, and with steady growth and resilient corporate earnings, there was little reason to sell. At the same time, spreads were tight, leaving little reason to add. The natural question was whether the US-Iran conflict ought to have broken this stalemate and forced a more decisive move. Despite a confrontation severe enough to trigger a historic oil shock, investment-grade (IG) spreads held at c.93 bps, roughly a third of their c.255 bps historical crisis average, while high-yield (HY) spreads stayed near c.335 bps against a c.883 bps crisis norm. A crisis of this significance did not inflict the kind of damage that would have justified shedding credit exposure, even as investors remain undercompensated for credit risk by historical standards. Against this backdrop, the call not to trade around the conflict, but to stay anchored to our strategic allocation and favour higher-quality fixed income, should have allowed investors to benefit from steady coupon clipping with some defensiveness amid the uncertainty. Indeed, with IG yields at c.4.6%, coupon income has contributed more than twice as much to total returns YTD as spread compression.
Yet a preference for higher quality invites an obvious challenge. With HY offering a marginally higher yield of c.6.8%, and capturing more returns from spread compression than their IG counterparts, why not reach further down the quality ladder for the higher carry? The answer lies in how that spread compression plays out. Whereas IG spreads tightened across all sectors, all moving within a band of c.10 bps YTD, HY's outcomes saw wider dispersion, spanning close to 200 bps, from a tightening of c.103 bps in energy to widening of c.90 bps in communications and c.77 bps in technology. The HY “advantage” was therefore more a bet on getting sector selection right, with a heavier penalty for getting it wrong. With spreads now historically tight across most of the market, that compression tailwind is largely spent, leaving a much lower margin for error in HY.

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