Alternative credit does not fit into a classic fixed income assessment approach. It includes complexity, uncertain refinancing risk and currently tends to exhibit low liquidity. But on the flip side it can deliver high absolute returns, can be structured in a way that the risk of principal loss is very low, and may also display much lower correlation to broader markets.
Central bank activity, coupled with changes in regulatory treatment of some credit assets, has distorted markets, but so has the appetite of investors for vanilla products. Alternative credit assets and approaches to managing and lending can tap opportunities from distortions.
A focus on instrument selection, eschewing the barbell approach and incorporation of ESG factors have been drivers of success for those prepared to look beyond the traditional.
Returns over the next few years from credit assets are unlikely to match those over the past few years. However, those returns will undoubtedly be enhanced in absolute terms and in their quality by investors willing and able to look beyond the traditional confines, and to embrace the opportunities created by banks and insurers exiting their strongholds.
Andrew Jackson is head of fixed income at Hermes Investment Management
