In Defence of Discipline

Global credit markets have shown remarkable resilience over the past year.

Looking back over recent market history, there has been a strong positive correlation between credit spread dispersion and the absolute level of credit spreads. In other words, the amount of variation between the performance of different companies and industries in credit markets has moved closely in line with the extra yield that credit has offered compared to underlying government bonds. When credit spreads are wide, the level of dispersion in markets also tends to be high.

As a result, fund managers primarily tend to focus during those times on generating portfolio outperformance via a combination of good stock and sector selection. However, when credit spreads tighten and volatility drops, history shows that dispersion in credit markets also tends to fall, meaning that the potential pay-off from good stock and sector selections is reduced.