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Direct impact of market volatility on high yield is manageable

Timely insights from portfolio managers and industry experts on key financial, economic and political issues.

The views expressed in these posts are those of the authors and are current only through the date stated. These views are subject to change at any time based upon market or other conditions, and Eaton Vance disclaims any responsibility to update such views. These views may not be relied upon as investment advice and, because investment decisions for Eaton Vance are based on many factors, may not be relied upon as an indication of trading intent on behalf of any Eaton Vance strategy. The discussion herein is general in nature and is provided for informational purposes only. There is no guarantee as to its accuracy or completeness.

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      By Stephen C. Concannon, CFACo-Director of High Yield Bonds, Portfolio Manager, Eaton Vance Management

      Boston - Heightened fears regarding the spread of the coronavirus throughout the world caused US equity benchmarks to open down more than 3%. The 10-year Treasury yield sank to its lowest level since 2016 as investors seek safety. The 10-year yield inched within 5 basis points of its all-time low. That said, the direct impact on the high yield market has been manageable so far. Volumes have been low given fewer market participants in light of a High Yield Conference currently being held in Miami. High beta energy bonds generically are down by 2% to 3%. Non-energy beta bonds are down 1% to 2%. Higher quality high yield is generally a half-point.

      To date, the biggest impact we have seen from the spread of the virus within high yield has been the pronounced weakness in energy. Energy issuers account for more than 12% of the overall market. Global demand for oil has dropped while supply continues to rise slightly. As a result we have dropped our 2020 WTI estimate to $50 from $55. In terms of natural gas we have reduced our 2020 estimate from $2.25 to $2.00. Access to capital for mid-tier and lower-tier energy producers remains challenging. The energy sector has posted a year to date total return of -2.51%. The strategy retains a slightly under-risked position within the sector.

      The impact to technology is largely limited to manufacturing and more specifically to supply chain versus sales within China. For example, Dell is one of the larger issuers and analysts estimate revenue exposure is in the mid-single digits while the supply side impact is 20% to 35% of revenue. Of note, as a result of the Chinese tariffs in 2019, many of these companies have been working on improving their supply chains and moving manufacturing out of China. As the virus moves beyond China, the concern of greater supply chain disruption grows. Currently most manufacturers believe that demand will return in the second half of 2020. Most importantly, cash flow at many of these companies remains robust and debt repayment is a priority.

      In terms of gaming, coronavirus will have a major impact on Macau, a Special Administrative Region of China. The casino operators agreed with the government to shutdown the casinos for 14 days, but will maintain full employment during that period and beyond. Visitation from China is near zero and it will take time to recover back to normal levels. In previous pandemics like SARS, however, once the virus was contained visitation returned to Macau quite quickly. Las Vegas will also be affected as Chinese visitation is a significant component to the Las Vegas market and will have an impact on MGM, Wynn and Caesars. The strategy has limited exposure to the Macau domiciled issuers.

      Finally, certain leisure issuers such as cruise ship operators continue to be pressured as coronavirus concerns expand in Europe. To date, Carnival, Norwegian and Royal Caribbean cruise lines have together recently announced they have cancelled 40 cruises and rerouted another 40. With respect to China specifically, most cruise operators, including Viking, have cancelled all cruises from to and from China until the end of June 2020. The cruise lines have also announced additional cleaning and safety measures to address the coronavirus, which include denying passengers who have visited infected regions and extra screenings for anyone who appears sick or may have come into contact with individuals who traveled to affected regions. While we expect near-term disruption to continue in the cruise industry, we also readily anticipate that the industry will bounce back rapidly after the coronavirus is contained. It is also worthwhile to note that ~80% and ~60% of Viking's ocean and river capacity have already been sold at peak rates.