Dan R. / Verdad Cap is out with a new missive on what to buy in a market that is deteriorating. Verdad’s crisis investing playbook centers around credit spreads, specifically HY and IG spreads.
As we sit here today, the US HY index OAS spread is trading at about 553bps. Verdad’s note basically says as you cross the 600bps threshold, things tend to continue to deteriorate but it’s a good time to get long BB and higher credit with < 5 yrs of duration. Here is their snapshot of yields segmented by credit rating and duration:
Note the non-linear credit spread expansion as you head down to CCC and below.
As mentioned prior, we just allocated to a low BB / high B private debt fund (would be represented right on the line above), and are buying small amounts of a single B private debt sleeve (below the line). The thesis is the debt underwriters’ history of a below average default rate through cycles, along with private market covenants, upgrade the credit quality of each by a modest amount.
To remind, the following credit players have indicated the following:
- Oaktree on current pricing: “In roughly six months, the average yield spread in the [HY] asset class has widened by more than 200 basis points to reach nearly 550 bps. With yield spreads at this level, we think investors are well compensated for default risk.”
- Apollo on direction of travel: “But the process is not over: while the recent spread widening has been substantial, we expect it to continue, and believe high yield spreads could reach 600 to 700 basis points over the next several months as the credit markets catch up to the equity markets.We think investors who can provide liquidity during these moments of dislocation will have significant deployment opportunities in the months ahead, with the structured market in particular offering attractive opportunities.”
- KKR not saying much: “We continue to look at credit opportunities through a critical fundamental lens and feel well positioned to take advantage of continued volatility and spread dispersion as we still see dislocated situations that can offer strong risk adjusted return potential.”
Alas only time provides outcomes.
Disclosure: This is not investment advice, do your own work.