HY Industry Mix: Damage Report

We look below the headline HY spread widening at the spread deltas by major industry groups in the recent selloff.

Aug 07, 2024

I think we are back on course Captain…

We look back across the broad HY industry group spread deltas through last night’s close to frame the credit pricing moves for the past week across the spread waves and the mini rally seen so far.
We also line up the HY index market value shares of the various broad sectors as a reminder of which industry groups move the HY index needle as pricing gyrates and if volatility does pick up again from here.
The relative magnitude of the spread widening by broad industry group appears to penalize the more cyclical sectors such as Transports, Autos, and Cap Goods, and that certainly is a common-sense pattern.
The lowest credit tier sectors would be expected to show more of a response given the quality spread decompression waves that unfold and risky assets get repriced from equities to credit.

The above chart lines up the industry spread deltas by height as the selloff shows a relatively wide divergence between the more volatile and cyclical sectors on the left and the BB tier heavy industries on the right (Banking, Utilities). We see a mixed range of sectors across the bigger OAS movers on the left with Transportation and Media rising by triple digits.

When recession fears get stoked up by securities price volatility or negative macro headlines, the logical reaction is to consider the higher odds outcomes:

Earnings volatility and fixed costs lead the way: The most fixed cost-intensive cyclical issuers will feel recession demand weakness more than those with less operating leverage and more variable cost structures. That could mean areas such as autos, cap goods, and transportation names get slammed on recession worries (hard landing is not the main risk as of now). The gapping in OE suppliers drove that home.
The lowest tier credits and quality spread decompression weighs in: Since the history is quality spreads gap wider in downturns (see Footnotes & Flashbacks: Credit Markets 8-5-24), the safe call is to back up levels down the food chain. We look at the B vs. CCC quality spreads routinely, and that can be the asymmetric moves under certain cyclical conditions (see The B vs. CCC Battle: Tough Neighborhood, Rough Players 7-7-24). That downside gap risk is always a factor to worry about in late cycle periods.
Commodities can swing around and move quickly: The upstream Energy and Basics sectors can get crushed by anything resembling China weakness and that would get amplified if you start worrying about a multi-market recessionary pressures in the US as well as across the Atlantic and the Pacific. That is a fairly obvious panic backdrop that was not part of this latest story, but hold that thought for 2025 if tariff policies trigger a trade war with China and Ukraine gets thrown under a tank by the White House. Energy and commodity metals would be high on the problem list.

In a real (vs. speculated) downturn, high fixed cost intensity facing demand risk will be the bigger worry with more top line risks and cash flow volatility. Similarly, the industry subsector with the lowest weighed average credit ratings will have more exposure to quality spread widening.

For US HY, Media and Telecom rank near the bottom of the tiers in credit quality with B2 ratings averages. Both have materially higher composite industry spreads with 600 bps handles vs. the high 300 range for the HY composite. Similarly. Transports post composite spreads in the mid-500 area. Media has the added challenge of being the #2 sector by face value and #3 by market value while Transports are one of the smaller sectors.

Stepping down to the next level of granularity, Air Transport (Transport), Advertising (Media), Managed Care (Healthcare), and Capital Goods (sub sector of the same name) widened over +150 bps during the selloff. We thought it prudent to peel some of the layers back for the worst of the bunch below:

Within Air Transport, the already troubled Spirit Airline bonds widened the most with Atlas Air and VistaJet the next leg down. Spirit Airlines has been on the decline recently with subsequent downgrades to CCC, and it is no surprise that jitters this past week saw nervousness around an already fraught name.

As a whole, Media saw a few prolific names like iHeart Communications, Cablevision, and Dish Network in the top wideners. The Advertising subsector was by far the largest widener of the group (Advertising, Media Content, Diversified Media, Cable & Satellite TV). Centerfield Media and Allen Media are both smaller CCC rated issuers that widened from already stressed levels. Clear Channel Outdoors is the largest HY Advertising issuer and the major contributor to the subindex move.

Managed Care is the smallest portion of Healthcare sector and was the major contributor to the widening across the selloff was in the MultiPlan (MLTPLN) complex. This follows the theme of weaker names coming under pressure. Given the small size of the subsector, the single issuer carried a lot of the movement here.

Finally, the Capital Goods subsector (not to be confused with the Cap Goods broad sector) rounds out the group of subsectors widening over 150bps. Here there was less variance across issuers, but GrafTech (EAF) did stand out among the crowd.

We add the above chart to give context to the above spread moves where we list the industry market value as a percentage of the overall HY index. Transport and Autos saw large spread widenings but do not wag the overall needle all that much. Media, Services, and Capital Goods rounded out the Top 5 widener and are larger respectively at #3, #6, and #7, respectively, and market value share.

Kevin Chun, CFA kevin@macro4micro.com

Glenn Reynolds, CFA glenn@macro4micro.com

Macro4Micro

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