High Yield Bonds in View: The Impact of Inflation
Our high yield corporate credit team has been monitoring how inflation is impacting various market sectors, with an eye on four factors: input cost inflation, pricing power, impact to earnings and repricing vulnerability. Here, Matt Fey and Brian French explore which sectors may be more greatly impacted within these areas, and why corporate credit in general should be able to weather inflation reasonably well.
Inflation has been a hot topic, and with good reason. Measures of inflation over the last several months have been nothing short of historic. However, recent data seem to indicate some cooling with many commodities are well off their highs, the Chinese economy and markets are in flux, the COVID-19 Delta variant is impacting economic activity, and geopolitical tensions are rising. There seems to be no shortage of factors that could lead to slowdown or moderation in inflation. Does this mean investors can shrug off inflation and turn their focus elsewhere? We believe that may be premature and that it’s still prudent to consider the impacts inflation could have on various asset classes.
What sets the current environment apart is the broad-based nature of input-cost inflation, spanning raw materials, logistics/transportation, and labor, as well as shortages of intermediate goods such as semiconductors. This is coupled with pent-up demand as economies reopen and consumers are flush with savings, giving firms a rare degree of pricing power.
Our corporate credit team has been monitoring earnings calls, management commentary, and industry data to assess the ongoing importance of inflation and potential implications for the US high yield corporate bond market. Through this analysis, a few things have become apparent:
- Even if inflation moderates, the impact of the sharp upturn in the last several months is likely to be felt for several more months and even quarters.
- Certain sectors are likely to experience greater impacts from input-cost inflation than others.
- Overall, US high yield corporate credit should weather inflation reasonably well in most scenarios.
Let’s explore each of these points in a bit more detail.