Fixed Income in Focus: The Resilience of US Credit

Hello, everyone, and welcome to our Fixed Income in Focus Webcast. My name is Benoit Anne, and I’m the head of market insights at MFS and I’m joined by Alex Mackey, our co-CIO of fixed income. We’re going to talk about US perspective, Alex. And so let me go straight into it. We’ve had a Fed meeting last week, and it was a big deal. It was the new Fed chair coming on board. So let’s start with your perspective on how that meeting went, and why did that matter for investors? What’s your Fed outlook, and what does that mean for US fixed income?

Alex Mackey:  Okay. Well, there’s a lot to unpack with a new Fed chairman. There is a new regime that comes with Kevin Warsh assuming that role, and there’ll be some fits and starts and some bumps and some learnings that he’s going to inevitably face as a new chairman. The release, the communication, the press conference last week gave us, as fixed income investors, a number of different things to think about as we look forward to the rest of 2026 and the future years with Chairman Warsh at the helm.

I think the first piece that we, as investors at MFS fixed income, really spent a lot of time talking about over the course of the last week is, what are the implications of communication and transparency? Those historically have been pretty significant in amount, volume, detail. Chairman Warsh made it very clear that he wants to shrink that dramatically. It came through in the statement, which the number of words was reduced by more than half. He didn’t add a dot to the summary of economic forecasts, and he communicated — it was something on the order of 25 to 30 times — the phrase “task forces.”

And task forces, really what that means is, “we’re going to take a full-fledged look at communications and how we’re doing it comprehensively.” We interpret that to mean that there’s going to be a lot less of it. And the reason that that matters is that, less communication, less transparency, from the Fed should provide the market with greater degrees of uncertainty. And greater degrees of uncertainty likely lends itself to aspects of volatility and surprise factors.

So that’s why we think that this change is material. We think there’s going to be a lot of evolution, not revolution, that comes with it. But as a result, we think that there are important considerations for investors like ourselves in how we’re choosing to take fixed income risks, specifically duration and associated rates volatility. The ability to have conviction, investing through the lens of duration in US rate space now feels like a lower conviction bet to us.

The other feature that’s really important is that, from the Fed’s communications, price stability. So, I think our takeaways were task forces are going to result in changes from communication and then price stability is a very vague way to describe inflation targeting. So, price stability together with changing communications — those are going to be the key drivers for how we’re talking about the Fed and what Chairman Warsh is likely to do for the approach with the marketplace in the future.

Benoit Anne:  Yeah. So maybe a bit more uncertainty, a bit more volatility, and ultimately reinforcing the case for active management, given that complexity that we’re facing now. So let me pivot to credit now, which obviously is the big topic du jour. The webcast is titled the Resilience of US Credit. Well, when you look at spread levels, there’s no denying that credit spreads are probably on the tight side. So, let me ask you, is that sustainable, and how do you think through the key drivers of credit going forward?

Alex Mackey:  Yeah. So, our framework in approaching, really, all markets within fixed income, and certainly when it comes to thinking about spread markets, credit markets, is focused on fundamentals, technicals and valuations. And how those all come together are going to have an important bearing on what the absolute levels of spreads are in the marketplace today.

So, your question about sustainability of tight spread levels, spreads are very tight. Spreads are in the single-to-low double-digit percentile in a long look-back history. We’ve had multiple experiences in the past where spreads have lived at the tight level for a long period of time. You look at the mid ‘90s, you had 1993 out to 1998, spreads lived at what you’d classify as tight levels. From 2003 to 2007, we had another extended period of time of spreads living at tight levels.

We’ve been living in a relatively tight period of spreads for more than two years. We had the indigestion of ’22 and ’23, that was driven by monetary policy, high levels of inflation (credit spreads were more volatile in those periods). Subsequent to that, ’24, ’25, and now here in ’26, you’ve had consistency in monetary policy, directional easing, which now is more likely to be stable to potentially modestly tightening both here in the US and also globally.

And then you’ve had probably the most important feature, in our view, higher level of yields for fixed income investors to allocate towards, together with a really solid backdrop for fundamentals within the credit space. So, earnings growth, very consistent. Earnings growth expectations for the rest of 2026 and into 2027 are likely to be in the mid-teens to 20%. These are really healthy growth levels. That matters a lot for the viability of credit. And when it comes to technicals, the level of yields is an important driver of technicals.

So, we watch fund flows that come into the different markets. We look at positioning of investors through different periods of time. And when we look at those measures today, fund flows are healthy, and positioning is not stretched. It’s more looking like it’s neutral. So the market’s not overbought. And if you’re thinking from an allocator’s perspective, the starting point of yield is really important in thinking about what your expected future returns experience is likely to be. That’s something that we should all come back to as fixed income investors regularly is starting point of yield for the investment is really important in your consideration of what the return profile is likely to be.

Benoit Anne:  Yeah. You mentioned a key word, the technicals. So let me ask you a quick follow-up question on that one. Are you concerned about the wall of supply, which is mainly AI related? How do you watch it, and can this spoil the party a little bit, or how does the platform view that?

Alex Mackey:  It’s a great question. It’s a great question. We don’t think so for now. It is a significant feature of the credit market in 2026. Its impact, AI, debt financing, its impact in the investment grade credit market, the high-yield credit market in the US. It is increasingly impacting the securitized credit, more specifically the asset-backed securities market.

So, growth there, the investment into AI, there’s puts and takes. Because the investment is driving economic growth, economic growth drives healthy fundamentals. But the need to borrow and to come to access the capital markets — the public capital markets — that’s a dependency. So, with high yields, drawing flows into the asset class, that’s supportive against this wall of supply, the way you described it. Year on year, you’re seeing really high growth rates of debt that is being issued in support of the hyperscalers, data centers, increasingly chip-related financing.

So, there may be a break point. We don’t see it right now. Books for new deals are oversubscribed 4 to 10 times. You see pricing levels on new deals that are initially at a spread level that ultimately ends up pricing significantly tighter than where the initial talk was. Those are really healthy signs for how the market is positioned and the willingness to take down all this supply. But come back to the fundamentals, and you have to keep asking yourself, are we seeing concerns from the bottom up? Right now we don’t see that. And CapEx is a powerful driver of macro fundamental health, which feeds down to micro economic health.

Benoit Anne:  Yeah. Excellent. Yeah, thank you. So, you’re the co-CIO of fixed income. Let’s talk about investment platform and the investment process. We can do a quick role play here. I’m a prospective client of MFS. Explain to me how you view the strength of the platform, and what would be the key differentiator of MFS, and why should I invest in fixed income with MFS?

Alex Mackey:  Yeah. Well, our fixed income platform is set up and kind of revolves around three fairly easy-to-remember features, which are critically important in making investment decisions. One, there’s a real strength in collaboration across the platform. That’s not just isolated to fixed income, but that’s as an investment organization broadly. The second is a real focus on consistency in the investment process. Consistency means recognition of risk, understanding risk tolerances. And then the third piece is investing with conviction. So, conviction may be at the portfolio level, making allocation choices, but it also — and this is really important — feeds into how ideas at the security level are identified. And you’re building the portfolios from the bottom up.

So, I think what MFS fixed income does very well is it brings together deeply resourced teams that focus on segments of the fixed income landscape and gets those investors to communicate in a highly effective manner. And I’ll give you one example of that. So, on a quarterly basis, we have a forum that we bring together. We call it our “macro-micro” forum. That forum is asking our team, from a macro perspective, our chief economist and chief investment strategist, to score four critical features for macro-related outcomes (those being revenue, CapEx, profit margin, and labor) directionally. Are those improving, staying stable or deteriorating? Score those from a macro perspective.

And then we ask all of our analysts covering the corporate marketplace in the US, so investment grade and high-yield corporate analysts, to score their industries exactly the same way. So we’re trying to identify consistencies and/or dissonance that exists within each of these four dimensions of macro features. Is the labor market deteriorating from a macro perspective? Are we hearing the same feedback mechanism from our micro team? And then go across the board.

The net result of that is that our industry-covering analysts hear from a breadth of other industries; they hear across the quality continuum. Our macro-centric investors hear micro perspectives in a way that they don’t spend their time featuring. And vice versa. The micro-centric investors are hearing explicitly views that are macro focused.

Why this all matters is that it helps each of our investors to make better investment decisions. And ultimately, if you take successful security selection, together with asset allocation choices, and combine that with efficient duration management, you can compound excess return across each of those dimensions of a portfolio’s risk, and then that drives a really positive client experience. So we think expertise within each of these is fostered through a highly collaborative investment platform, which we put a lot of energy into, and we think we do it really well at MFS.

Benoit Anne:  Good. So, you mentioned the micro-macro meeting. There’s another meeting that is called “risk and opportunities” as well. So let’s look into that. First, what are the key risks on your mind right now for US fixed income, and then where do you see the most compelling opportunities right now?

Alex Mackey:  Yes. So, when we think about the spread markets, and we define them as risks and opportunities in the forum that you mentioned, that is really focused on the spread segments of the fixed income markets. The areas where we see — we’ll start with risks, because as fixed income investors, we’re always skeptical and think about downside — but when we think about the risks, the segments of the market that we’re probably most cautious around would be high yield, European high yield (US high yield, at least in lower quality segments of the US high-yield market). And then having a relative tilt towards investment grade quality credit together with EM — a focus on sovereign over EM corporates.

So the opportunities are, I would say there’s less of a high conviction view on the opportunities, but there are always opportunities within the fixed income sectors that we can invest within and across. Much of the opportunity set though will ultimately come down to idiosyncratic selection choices, at least in this market environment today.

But again, that’s a great example of a process and a forum where we bring our portfolio management teams together, we force a debate, and we ask everyone to share their views across each of these sectors. And I would tell you that the dialogue of frustration with tight spreads has been very persistent, but the active voting from those portfolio managers who are providing inputs and data points into this forum, it’s been increasingly shifting towards a neutral positioning. And that really is a byproduct of the views around fundamentals, together with technicals and the constructive posturing in each of those features. So, yes, it’s frustrating to not be compensated in a really highly significant way for spreads. At the same time, we’ll go back to this can be sustainable, this may persist, and that has to be a recognized reality.

Benoit Anne:  Yeah, absolutely. I mean, the way I see the level of yields is so attractive right now that fixed income is well positioned, given the global environment and the global complexity that we are facing. So, we receive the number of client questions. I picked two of them for your consideration. So, we’re good to go back to the question of valuation. So, one of the client questions was, are the relatively tight spreads a sign of complacency, or do they really reflect maybe a structural shift in the high-yield market with private credit absorbing maybe a greater share of the risk? I think that’s a really good question. We haven’t mentioned private credit, maybe that’s the time to cover that as well.

Alex Mackey:  Yes. Yeah. Yeah. AI and private credit, right? Those were the two things that dominated the spread conversation in fixed income markets at the very beginning of 2026, and then the Iran war became the dominant feature and inflation, but now we’re starting to migrate back toward what are the implications of AI? And you brought up the supply features. What are the implications of shifting undercurrents within the private credit markets?

Let’s talk about high yield for the high-yield public bond market for a minute. The complacency or the level of spreads that we see today, you can’t in this case judge a book by its cover when it comes to the high-yield bond market. There’s been a huge change in the composition quality-wise for high yield over the course of the last decade. So, the high-yield market today has about a 10% larger share represented by BBs, which is the highest quality cohort within the high-yield market.

So, the quality composition has moved upward, improved in quality, which definitionally would result in a lower probability of default. And if the probability of default for the aggregate of the market is shifting somewhat lower, then a sustainable level of spread compensation should be correspondingly lower for assuming that risk. So that makes a lot of sense.

And now the reason that that’s happened is because there has been an enormous amount of competitive lending that’s been provided for through the credit markets that are put into the category of private. Private is so many things. So, we can’t talk about what private credit is in all of its different forms, but I think what you can say pretty confidently is that considering an allocation to private credit assumes two things: Assumes that you have a willingness to take on less transparency than you get in public capital markets, and that you have less relative liquidity in the investment that you’re making and the capital that you’re providing.

Those are tradeoffs. So private credit has been an area of high growth. High growth in markets historically has a past that’s filled with speed bumps, damage, wipe outs. We haven’t seen a lot of that yet. There have been certainly many questions within certain sectors of the lending space, software as an example. There’ve been lots of conversations around BDCs and the structure of those vehicles.

If you know you’re getting a high degree of diversification, then you can consider taking those risks and making those tradeoffs. But we’ll bring it all back to the high-yield bond market. There are a lot of rational arguments for why the high-yield bond market is trading at tight levels. Earnings are strong, quality composition is better. So, the sustainability of that, we would tend to agree with more so than vehemently disagree.

Benoit Anne:  Yeah, good. Well, thank you. Another question is the discussion around securitized, which is coming up in conversations these days. Could you please explain to me the strategic case for exposure to securitized in a US multi-sector portfolio?

Alex Mackey:  Sure, of course. So securitized credit is one description, but really securitized credit is a collection of potential investment vehicles. So you have asset-backed securities, you have mortgage-backed securities, you have collateralized loan securities. There are different ways to take risks. We think there’s a lot of value within securitized credit, but you have to be able to underwrite, at the loan level, the risk.

So, the transparency, the resourcing to do that work, and build the risk from the bottom up, what you’re consistently able to capture in securitized credit, however, are many examples of very low default probability securities that are over-collateralized to a significant degree, and you can capture spread compensation that’s typified by low-quality investment grade corporate credit, or high-quality, high-yield corporate credit. And we think those are tradeoffs.

Other features of securitized credit, which we think are compelling in today’s market, are many of these securities have prepayment features. So they’re constantly creating liquidity back to the portfolio. You buy a security, and it amortizes over a number of years. The portfolio is able to take that liquidity that’s paid back to it and put it back into the market.

Now is a moment in time where we think liquidity should be highly valued, and the ability to deploy liquidity should be thought about as a real opportunity for portfolio managers. So, securitized credit gives you an opportunity to get invested with compelling and comparative spreads, and have some features that are aligned with a view towards liquidity creation, which as active fixed income investors, we think the ability to have liquidity in significant amounts is going to be important. We know volatility will happen. We don’t know the timing for it. But it will, and you need to be ready to act.

Benoit Anne:  Yeah. Excellent. Well, that concludes our Fixed Income in Focus Webcast. Thank you very much, Alex. And dear clients, if there’s any follow-up questions that you may have, don’t hesitate to reach out to us, and we’ll get back to you. Thank you very much.

The views expressed are those of the speaker and are subject to change at any time.  These views should not be relied upon as investment advice, securities recommendations, or as an indication of trading intent on behalf of any other MFS investment product.  No forecasts can be guaranteed.

 68591.1