Global income bonds: finding the credit sweet spot

Around the boundary between investment grade and high yield sits a part of the bond market that has historically offered an attractive balance between risk and reward. BBB-rated bonds, the lower end of investment grade, and BB-rated bonds, the higher-quality end of high yield, occupy what we see as the ‘sweet spot’ of global credit. Historically, this segment has delivered returns closer to high yield, while exhibiting risk characteristics that have been closer to investment grade.

For income-seeking investors, that combination is compelling.

The challenge is knowing where to look. That means moving beyond traditional benchmarks, individual regions and the assumption that all high-yield bonds carry the same risks. At Aberdeen, that’s exactly what we seek to do. Here’s how.

Why income remains firmly in our sights

We believe the case for global credit remains compelling. Attractive yields, resilient company balance sheets and a growing number of rising stars continue to support the case for global credit. A limited maturity wall in high yield also reinforces the outlook on low default rates.

True, spreads have narrowed, but higher policy rates and government bond yields mean investors can still access levels of income that were unavailable for much of the post-financial-crisis period. Importantly, higher starting yields have been a key driver of future fixed income returns. They can also provide a valuable cushion during periods of market volatility.

For investors currently holding cash, fixed deposits or money market funds, this creates an important consideration. Today's income opportunities are about building a diversified source of income that can continue to play a role as market conditions evolve, not just maximising yield.

Looking beyond labels

First, let’s put a myth to bed. Many investors hear the term ‘high yield’ and immediately think ‘high risk’. The reality is more nuanced.

High yield spans a wide range of businesses and credit profiles. A BB-rated issuer can have vastly different characteristics from a deeply distressed company at the lower end of the market. In the past, much of the default risk within high yield has been concentrated among the weakest issuers, while higher-quality credits have demonstrated much greater resilience.

That distinction matters because successful income investing is not simply about maximising yield. It is about ensuring investors are adequately compensated for the risks they take.

This is one reason we focus on the BBB/BB crossover segment. It sits between the lower-yielding parts of investment grade and the more distressed areas of high yield, offering what we believe is one of the most attractive risk-reward opportunities in global credit markets.

Finding value others may overlook

Identifying the right parts of the market is only the starting point. Within any rating category there are strong businesses, weaker businesses, and companies whose prospects are changing rapidly. We believe many of the best opportunities in credit emerge when market perceptions lag company fundamentals. Through bottom-up research, we seek to identify mispriced credits before they are fully recognised by the wider market.

One area we find particularly attractive is so-called ‘rising stars’ – companies whose financial strength is improving and which may eventually move from high yield into investment grade.

Take Shriram Finance. The Indian lender has strengthened its business and balance sheet, supported by strong growth and strategic investment. As confidence in the company improved, its credit rating has been upgraded from BB+ to BBB-.

That is where careful credit selection can make a difference: identifying improving businesses before the wider market fully recognises the change.

A global mindset

Another misconception is that the standout income opportunities are concentrated in one region, particularly the US. While the country remains an important market, we believe investors benefit from looking across the full global corporate bond universe.

A global approach allows us to diversify across economies, sectors and credit cycles, while searching for income across a wider corporate bond universe – from Europe to the US, Asia and emerging markets.

Different regions move through economic cycles at different speeds. Regulatory changes, government policy and industry trends can create compelling ideas in unexpected places.

Eutelsat, the European satellite communications company, provides an example. The company's strategic importance has increased as demand for European communications and defence infrastructure has grown. Supportive government funding strengthened its financial position and improved market confidence in its future prospects.

Final thoughts…

The choice facing income investors is often presented as a stark one: remain in lower-yielding assets or take significantly more risk in pursuit of higher returns. We believe there is a middle ground.

By focusing on carefully selected opportunities across global credit markets, applying rigorous research and maintaining a disciplined approach to risk, investors can potentially access attractive income without moving unnecessarily far up the risk spectrum.

The search for income doesn't have to end with cash, nor does it require a leap into higher risk. Sometimes the best opportunities lie in the space between – the sweet spot of global credit.

Companies selected for illustrative purposes only to demonstrate the investment management style described herein and not as an investment recommendation or indication of future performance