On the go: A decrease in the average credit quality of fixed income indices, coupled with increased competition for high-quality assets, poses significant challenges for pensions schemes, according to Axa Investment Managers.
Ratings agencies have downgraded more than $1tn (£777bn) of corporate issues across the global credit indices since the start of the coronavirus crisis, leading to increased demand for a lower supply of high-quality assets, according to Axa IM portfolio manager Simon Baxter.
Passive investors generally, and the UK pension market as a whole, may struggle to navigate the intricacies of large fixed income index rebalancings when issuers are downgraded.
“The ultra-low interest rate environment since 2015 has provided corporate treasurers with a strong incentive to increase the overall level of indebtedness in capital structures,” Mr Baxter said.
“This has resulted in a drop in the average credit quality of issuers, driving a large increase in the BBB component of credit indices, which now averages around 50 per cent of the main credit indices.”
Mr Baxter argued that credit downgrades have been issuer and sector-specific, exacerbating the problem of issuer and sector concentrations.
Higher-quality sectors, such as housing associations, represent an increasingly large percentage of the longer-dated sterling credit indices, a trend he considers worrying.
“A keen focus on diversification and an assessment of fundamental credit quality, as key inputs to portfolio construction, can help ensure investors are insulated from some of the negative biases of fixed income indices,” he added.
