(Bloomberg) -- T. Rowe Price Group Inc. is in risk-off form in parts of the credit markets, anticipating pressure on yields from higher inflation next year will make the stability of bank loans preferable to the volatility of bonds.
Markets need more time to fully price in the “higher inflation path that we’re on,” Ken Orchard, head of international fixed income at T. Rowe, said during a markets briefing by the $1.61 trillion money manager on Tuesday. He favors the reduced duration risk of bank loans and securitized credit, and is underweight on global investment-grade bonds and dollar-denominated emerging market sovereign and corporate bonds.
“We’re not expecting credit spreads to move up dramatically and we’re not expecting any sort of crisis,” he said. “I do think that there is some room for credit to underperform government bonds at least in the first half of next year.”
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T. Rowe’s multi-asset credit risk indicator switched to “risk off mode” in August after being “risk on” for about 18 months, said Orchard.
“We don’t expect that indicator to flip back into positive territory in the near future,” he said. “And it’s because we expect this upward pressure on government bond yields to mean that volatility in the markets is going to remain high. That volatility is often not good for credit.”
US corporate investment-grade bond spreads, the extra yield over US Treasuries that investors get paid to hold riskier debt, are hovering near their tightest levels in more than 25 years.
The US economy has proved to be resilient and T. Rowe expects the global economy to generally perform well next year. Still, strong growth doesn’t always translate to strong credit performance, said Orchard.
T Rowe is among those firms that expect the Federal Reserve to cut interest rates by another quarter point next month. It has neutral positions on global high yield corporate bonds, agency mortgage-backed securities and taxable munis.
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