Fallen Angels: The 12 months In Evaluate

By Nicolas Fonseca, CFA, ETF Product Analyst, VanEck

Fallen angels[1] outperformed the broad excessive yield[2] index by 0.72% in December and by 7.89% in 2020 (14.06% vs 6.17%).[3] December was a comparatively quiet month by way of downgrades, however robust from a return perspective (2.63% vs 1.91%)[4] as spreads continued to tighten and ended the 12 months barely decrease than the place they began.

2020 in Evaluate

2020 was a roller-coaster 12 months for the excessive yield market. In March, we noticed huge unfold widening adopted by downgrades from extreme financial disruptions as a result of Covid, and the U.S. Federal Reserve (Fed) stepping in to buy people bonds and ETFs, which marked the start of a major unfold tightening cycle.

• Fallen angel spreads ended the 12 months under the place they began, however skilled vital volatility, reaching 954bps on the widest ranges in March
• High 2020 Sectors: Telecom an Vitality contributed over 50% of the 7.89% of outperformance over broad excessive yield[5]
• High 2020 Issuers: New fallen angels contributed 84% of the outperformance over Broad Excessive Yield[6]
  • The highest 5 new fallen angel contributors had been Occidental Petroleum (OXY), EQT Company (EQT), Kraft Heinz (KHC), Cenovus and Ford – following what we wrote again in August
• Outperformance for the 12 months was primarily defined by safety choice, with constructive contributions from inside every sector
• Allocation impact was additionally considerably constructive, with the chubby to Vitality being the most important contributor[7]
• Rate of interest actions additionally contributed positively to outperformance. Fallen angels have an extended length in comparison with the broader excessive yield market, on common.[8] Traditionally, rate of interest actions haven’t been a major driver of long-term outperformance relative to the broader market.

Fallen Angels Could Proceed to Outperform in 2021

We imagine fallen angels can proceed to offer outperformance potential versus the broad excessive yield market, as they’ve by way of varied credit score cycles. Lengthy-term historic returns have been defined by three major drivers, which may have differing impacts relying available on the market setting: a fallen angel technical impact, contrarian sector exposures and better common credit score high quality. Whereas 2020 was dominated by the fallen angel technical impact, we imagine all three of those drivers have the potential to meaningfully contribute to returns this 12 months. The chart under particulars 5 intervals the place the broad excessive yield spreads had been under the long-term common and that fallen angels have persistently outperformed the broad market in these intervals. Within the present interval, beginning late July, fallen angels are already forward by over 3%.

Fallen Angels Have Outperformed in Tight Unfold Environments

Supply: ICE Information, VanEck.

Supply: ICE Information, VanEck.

2020 General Statistics

For the primary time, the common yield to worst (YTW) of the fallen angel index dipped under 4%. The rise in length, market worth and variety of points is defined by the massive variety of downgrades that occurred earlier in 2020. Fallen angels are these bonds having been issued with investment-grade standing after which downgraded. Consequently they sometimes have longer dated maturity and longer length, thus length considerably elevated from 5.92 to six.82.

Supply: ICE Information, VanEck.

A New Fallen Angel

A brand new issuer entered the fallen angel index on the finish of December: Seagate HDD Cayman – the one Tech associated fallen angel in 2020. The entire quantity of recent fallen angels in 2020 was about $165B, with the overwhelming majority coming in April month-end after the primary wave of lockdowns within the U.S.

Supply: ICE Information, VanEck.

No Rising Stars in December

Efficiency by Sector

Autos joined the fallen angel index in 2020 when Ford was downgraded. Vitality and Utility issuers had been the opposite two industries that noticed their weights improve. The common unfold on Vitality sector bonds, which account for 29% of the fallen angel index, tightened considerably from the elevated ranges in March and April, and is now decrease than the start of 2020. Bonds of Telecom and Vitality issuers contributed nearly 50%[9] to the Index outperformance vs broad excessive yield to the YTD determine.

Supply: ICE Information, VanEck.

Efficiency by Ranking

All through 2020, the fallen angel index elevated its publicity to increased high quality bonds from 77% to start with of January to 95% on the finish of the 12 months. The rise in increased high quality bonds was as a result of document variety of issuers downgraded because the financial system shut down within the early a part of the 12 months. As anticipated, the entire issuers joined the index with BB credit score rankings. For the month of December and regardless of the inclusion of 1 new fallen angel, there have been no vital modifications to the general ranking weight. Notably, CCC and lower-rated bonds carried out finest in the previous couple of months of the 12 months after normal optimism with the vaccine bulletins, however fallen angels continued to outperform the broader excessive yield market.

Supply: ICE Information, VanEck.

Initially revealed by VanEck, 1/13/21

DISCLOSURES

¹ Fallen angels refers back to the ICE US Fallen Angel Excessive Yield 10% Constrained Index (H0CF)

² Broad excessive yield refers back to the BofA US Excessive Yield Index (H0A0), additionally referred because the broad benchmark.

³ ICE Information as of 12/31/2020

⁴ ICE Information as of 12/31/2020

⁵ Factset as of 12/31/2020

⁶ Factset as of 12/31/2020

⁷ Factset as of 12/31/2020

⁸ When rates of interest fell, the worth of the worth of bonds with an extended length rises greater than a bond with a shorter length.

⁹ Factset as of 12/31/2020

A fallen angel bond is a bond that was initially given an investment-grade ranking however has since been lowered to junk bond standing.

Excessive yield bonds could also be topic to higher danger of lack of earnings and principal and are prone to be extra delicate to hostile financial modifications than increased rated securities.

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ICE BofAML US Excessive Yield Index (H0A0, “Broad HY Index”), previously often called BofA Merrill Lynch US Excessive Yield Index previous to 10/23/2017, is comprised of below-investment grade company bonds (based mostly on a median of varied ranking businesses) denominated in U.S. {dollars}.

ICE US Fallen Angel Excessive Yield 10% Constrained Index (H0CF, Index) is a subset of the ICE BofA US Excessive Yield Index and contains securities that had been rated funding grade at time of issuance.

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