Morgan Stanley Wealth Management (MSWM) has exited out of its position in high yield bonds, citing that it might be too late to buy junk bonds in this market environment.
In a 2018 outlook commentary seen by Citywire, Michael Wilson, chief investment officer of MSWM writes that while the recently enacted tax cuts may lead to better growth in the short term, they may also bring forth excesses typically seen before a recession.
‘We think the time has come to reduce high yield completely, as late-cycle dynamics have become even more evident,’ wrote Wilson.
The firm first reduced its overweight allocation to high yields in late June last year and shifted towards small and mid-cap equities, which are up some 10% since then compared to high yield, which has returned only 1.6% during the same period.
Morgan Stanley recommended taking the proceeds from high yield and putting them into short-term fixed income such as two-year treasuries, taxable bonds or municipal bonds rated at least AA.
‘High yield has performed exceptionally well since early 2016 with the stabilization in oil prices and retrenchment by the weaker players,’ wrote Wilson. ‘We recently took our remaining high yield positions to zero as we prepare for deterioration in lower quality earnings in the US led by lower operating margins. Credit spreads have likely bottomed for this cycle.’
While Morgan Stanley does not expect a recession in 2018, it does see a riskier market environment ahead characterized by lower-quality rise in earnings and normalization of central bank monetary policies.
'We think it will be much tougher to make money in 2018 and 2019 than in 2016 and 2017, as the risk of a recession and outright bear market comes closer,' wrote Wilson.