Today, people are left trying to make sense of yesterday’s wild ride in the equity market in the hour before the market close, followed by the quick move down (even into “correction” territory on the Dow) and subsequent reversal this morning. There have been a number of “causes” offered by the market commentators, everything from blaming it on the computers/algorithms to inflation concerns to too many leveraged and inverse products (ie., ETFs with two and three times leverage or inverse ETFs). One of the statements we have heard this morning that has most resounded with us is one commentator saying we have created a “bubble” called “passive investing” over the last several years and that bubble is in the process of bursting. While this commentator was referring to the equity market, we believe it translates to a variety of asset classes.
Passive investing has certain been widely embraced over the last several years, as money has poured into passive vehicles. And it has worked for these investors as many asset classes have been trading virtually in a straight line up, with little in the way of volatility. Investors have seemingly been lulled into complacency and the belief that markets always move up, but this certainly isn’t always the case, as the last several days have demonstrated.
We are not passive investors, rather we are an active manager within the high yield debt market, and are managing our holdings on a daily basis. We are making buy and sell decision based on our determination of specific credits and how we want to position ourselves. We don’t see volatility as a reason to panic; rather, we view it as an opportunity to look for credits that may have been hit for the wrong reasons, creating an attractive buy-in. Nothing has changed fundamentally in the companies in which we invest over the last week. We own what we own for a reason, rather than owning a security just because we are tracking an underlying index. Furthermore, credit fundamental remain intact as largely companies have liquidity, corporate leverage isn’t accumulating, and we don’t see a default spike on the horizon.
Interestingly, despite all of the volatility we have seen in equities, the high yield market has been relatively tame over the past several days—we aren’t seeing a big sell-off in credit markets. While two days of performance by no means makes a trend, it is worth looking at the declines over the past couple days. From Thursday’s close through Monday’s close, we saw the S&P 500 Index return -6.13%, the Dow Jones Industrial Average -6.98%, and the NASDAQ composite -5.19%, while the Bloomberg Barclays US Corporate Investment Grade Index has returned -0.26% and the Bloomberg Barclays US Corporate High Yield Index -0.52%.1
We don’t see the current market conditions as a reason to panic. Equity valuations have gotten ahead of themselves and now are adjusting, yet credit markets seem to be holding in as we aren’t seeing big declines in corporate credit. Volatility in financial markets has returned and we’d view it as an opportunity for active managers. Investors are waking up to the fact that markets don’t always move up, and re-evaluating if passive is best. We have maintained that the high yield debt market warrants active management, and believe this active approach is all the more relevant and essential in today’s market.