European credit assets are becoming more attractive in fixed-income strategies, according to Noah Wise, a senior portfolio manager at Allspring Global Investments, pointing to better yield spreads and higher credit quality than what’s currently available in the US market.
Wise, who leads asset allocation and global credit for the Plus Fixed Income team, underscored the value European credit offers, especially given the current economic landscape, where US yields have risen more sharply than those in Europe following recent election outcomes and interest rate changes.
“Following Trump’s 2024 win, we saw a notable uptick in yields, as the market had partially anticipated this outcome. The election drove a rally in growth-oriented assets, with equity markets reaching new highs and credit and fixed income sectors outperforming. Credit spreads tightened, reflecting positive sentiment across these markets,” said Noah.
This trend was already forming in the lead-up to the election, and it continued afterwards, particularly with the likelihood of a “Republican sweep”. According to Noah, this reaction has been the correct move for markets and aligns well with recent performance.
In today’s market, balancing high-quality carry with effective risk management involves strategic diversification across interest rate curves and regions. The recent US elections, while impactful, have led to higher interest rates and inflation expectations primarily in US fixed income markets, but this hasn’t been mirrored at the same pace in Europe. This regional yield difference offers opportunities to enhance risk management and potential returns.
“Yields today are at levels higher than nearly 90% of the time over the past 15 years, signalling substantial income opportunities. However, corporate credit, particularly lower-quality segments, presents specific risks. Valuations in these lower tiers often show narrow spreads, meaning there’s minimal compensation for credit risk compared to the broader fixed income market. This tightness in spreads reflects high optimism in credit markets, particularly at the lower end of the quality spectrum,” explained Noah. While fundamentals like corporate cash flows and balance sheets remain solid, tight spreads leave little room for error if economic conditions change, he added.
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To navigate this, the asset management firm tilts towards European credit over US credit, where spreads are more favourable and valuations less stretched. “European investment-grade and high-yield bonds generally offer better spread compensation, with European credit markets also tending toward higher-quality ratings than the US. For example, in the European high-yield market, about two-thirds of bonds are BB-rated, compared to around 50% in the US, adding a quality edge to European exposure,” shared Noah.
In terms of sector preference, he is favouring high-quality securities like agency mortgage-backed securities. “These securities are double A-plus rated, very, very liquid, and trading attractively compared to the normal spread relationship versus corporate bonds more broadly,” Noah said. This selective approach to high-quality assets aligns with his focus on balancing yield with risk management in a volatile economic environment.
The US labour market is playing a crucial role in shaping monetary policy, Noah highlighted. The Federal Reserve, led by Chair Powell, has signalled a desire to lower interest rates, but how far they can go depends largely on the strength of the labour market. The Fed operates under a dual mandate focused on employment and inflation, and recent labour data has been mixed, creating some uncertainty.
In July, the Non-Farm Payroll numbers came in lower than expected, leading the market to think the Fed might need to cut rates more aggressively. However, subsequent revisions and stronger data painted a more positive picture of the labour market. More recent reports have shown softer numbers, underscoring the importance of looking beyond monthly fluctuations to the broader trend.
Overall, the US labour market remains relatively healthy, striking a balance that supports the Fed’s gradual approach to managing inflation. This steady, measured path of rate reductions—around 25 basis points per meeting—helps stabilise the economy and benefits fixed-income markets, especially in the short-to-mid-term range of the yield curve.
