Voya High Yield SMA Quarterly Commentary - 4Q24
The strategy seeks to maximize total return over a full market cycle by taking a broadly diversified and well-balanced approach.
Portfolio review
Strong economic data continued to come through in the final quarter of 2024, which had the impact of driving spreads tighter while reversing the rate rally experienced in 3Q24. The credit spread of the HY bond market closed out the year at 292 basis points (bp) on an option - adjusted basis (OAS) basis, having grinded 11 bp tighter since last quarter and 47 bp since the start of the year. Market technical factors remained positive, driven by strong investor demand given attractive all - in yields.
Labor market dynamics continued to show signs of softening without entering a state of deterioration. Job gains remained reasonable, and although the unemployment rate resumed its upward trajectory, it remained below the high watermark set earlier in the year. Meanwhile, wage growth remained strong, which helps explains both the resilience of consumer spending and the stickiness of services inflation.
While the Fed continued to deliver rate cuts at both the November and December meetings, the December cut was accompanied by more "hawkish" elements. Specifically, the Fed's Dot plot indicated only two cuts projected for 2025 down from four in the previous iteration. Additionally, officials moved their projection for both growth and inflation higher, while their projection for the unemployment rate moved lower and only slightly above the current level.
Overall, the fourth quarter of 2024 was characterized by resilient labor market dynamics, strong economic growth and sticky inflation. The impact on fixed income performance was mixed, with yields rising and credit spreads tightening, leading to modestly negative returns for most fixed income sectors.
Portfolio review
For the quarter, the SMA underperformed the Index on both a gross - and net - of - fees basis. The SMA's focus on higher quality bonds detracted from returns versus the Index, as lower - rated credits significantly outperformed during the quarter.
Outlook
Looking forward, we continue to expect economic growth will remain resilient. The recent election outcome further strengthens this view due to election optimism and productivity gains from deregulation. Meanwhile, we expect inflation to resume its downward trend, driven by moderating service prices. In this area however, the election result lowers our conviction as an adverse policy mix of deficit spending, tariffs and stricter immigration limits would sustain higher levels of demand while constraining supply. That said, we believe a negative market reaction would likely compel the administration to temper those policies before they derail growth.
Assuming this is the case, and inflation does not reaccelerate, we expect the Fed will tolerate inflation that is slightly above their target and deliver a few more rate cuts in an effort to preserve the current cycle.
The strong macro backdrop and easing cycle is expected to provide ongoing support to credit fundamental factors in the HY market. While valuations are on the richer side, high carry should continue to cushion returns and protect from spread - widening events absent an external shock. In the medium term, investors may have opportunities to capitalize on short - lived market dislocations as the Trump administration looks to find the right balance in implementing its policy goals. For fixed income portfolios, security selection and flexibility in sector allocations will be key to generating outperformance.
Key Takeaways
The Bank of America Merrill Lynch High Yield Master II Index (the Index) returned 0.16% for the quarter.
The SMA underperformed the Index during the quarter on both a gross - and net - of - fees basis, primarily due to its higher quality focus.
The strong macro backdrop and easing cycle is expected to provide ongoing support to credit fundamental factors in the high yield (HY) market.