Macro Backdrop
Sentiment was mixed in February as spreads on EUR investment grade (IG) corporates ended the month flat. February started on decent footing, as spreads touched lows of 87 basis points (bps), levels not seen since summer 2021. Positive sentiment was fuelled by the potential for Russia-Ukraine peace talks, as well as delays around US tariff implementations. Spreads widened later in the month as geopolitical tensions unnerved markets as the likelihood of a swift resolution of the Russia-Ukraine conflict declined and trade wars came back in focus. Weak macro data prints in the US further weighed on risk assets, while Europe outperformed on the back of market-friendly election results in Germany and talks about boosting the bloc’s defense spending. Rates declined in February, driven by broader macro weakness and geopolitical tensions. German 10-year bund yields were down 5 bps on the month while 10-year US treasuries were down 33 bps – with the divergence due to weak data prints in the US (re-pricing rate cuts in 2025) and the potential boost to EU fiscal spending.
EUR IG corporates, as measured by the Bloomberg Euro Aggregate Corporate Total Return Index (EUR), posted positive returns for the month (+0.6%), driven by income and lower rates.
Performance
The fund’s NAV during the month (Institutional class, EUR) was up by 0.51%.
In February, financials slightly underperformed non-financials (1 bp wider versus flat spreads). Across the capital structure, Tier 2s (T2s) from banks and insurers outperformed, 1 bp and 2 bps tighter on the month respectively, while senior bank bonds underperformed (3 bps wider).
Top performers during the month were mainly insurance and bank T2s.The chief detractors were mainly bank seniors that underperformed and short-dated bank T2s that benefitted less from spread tightening.
Positionning
Issuance of green bonds from the European financial sector remained resilient in February, with USD 4.5 billion printed, up 13% year-on-year (YoY) and close to the three-year average for the month of February.
The majority of banks have published Q4 earnings, coming above consensus expectations on average – while credit metrics remain very strong. As an example, NatWest reported an operating profit of GBP 1.5 billion in Q4, up 19% year-on-year, and equivalent to a 19% return on tangible equity – beating consensus expectations. The group’s Common Equity Tier 1 (CET1) capital ratio was up 20 bps in 2024 to 13.6% (310 bps or GBP 5.7 billion above regulatory requirements). Asset quality remained highly resilient, with very low loan loss provisions in 2024 of 9 bps (as percentage of loans) and non-performing loans (NPLs) of 1.6%. Looking ahead, the sector’s fundamentals are expected to remain very strong, forecast to deliver a circa 11% return on equity in 2025 and 2026.
Outlook
We remain positive going forward – with attractive spreads against a backdrop of very strong credit quality. We continue to see financials as the most attractive part of the market, with rock-solid fundamentals and earnings that have benefitted from the normalisation of interest rates.
With a yield (to next call) of around 3.4% and an average spread (G-spread) of circa 115 bps on the fund (compared to 3.1% / 90 bps for the EUR IG corporate market), we see this as an opportunity to capture high income with further upside potential from tightening spreads. This is despite the high-quality bias of the fund (average bond rating of BBB+ / average issuer rating of A).
