Quarterly Review

M&G CREDIT INCOME INVESTMENT TRUST PLC

(the “Company”)

LEI: 549300E9W63X1E5A3N24

Quarterly Review

The Company announces that its quarterly review as at 31 December 2023 is now available, a summary of which is provided below. The full quarterly review is available on the Company’s website at: 

https://www.mandg.com/dam/investments/common/gb/en/documents/funds-literature/credit-income-investment-trust/mandg_credit-income-investment-trust_quarterly-review_gb_eng.pdf

Market Review

It was a positive fourth quarter for most financial assets as investor sentiment was bolstered by the easing of inflationary pressures, optimism about forthcoming rate cuts by central banks and a potential economic ‘soft landing’. After an initial period of weakness, the year ended with a powerful two-month rally in bond and equity markets. The trajectory of economies continued to diverge over the period. With a strong labour market supporting consumer spending, the US economy grew at its fastest pace in nearly two years of 4.9% between July and September. Over the same time period, however, both the eurozone and UK economies contracted by 0.1%, fuelling concerns over recession as consumer spending and manufacturing activity continue to stagnate.

Manager Commentary

Pleasingly the Company delivered another quarter of strongly positive performance. The Company’s NAV total return in Q3 was +3.40% which outperformed the benchmark and concluded a strong year as the portfolio delivered an NAV total return of 10.42% across 2023. Performance in the final quarter of the year was driven by capital gains as the portfolio benefited from the rally in credit spreads, fuelled by optimism for rate cut expectations in 2024.

The tenacity of the rally and the appetite for risk into the close of the year saw bond spreads tighten notably during the period, which benefited asset valuations. Consequently, this also created a more challenging environment in which to add assets to the portfolio which in our opinion would provide attractive risk-adjusted returns. One area of the corporate bond market that did lag the wider rally was Utilities, particularly the water sector where idiosyncratic sector risks have seen credit spreads remain wider. As such, we participated in the South West Water new issue which printed with what we felt was a generous concession to its secondary curve and compared well to peers. Into the market strength we also took the opportunity to sell holdings in issuers that had tightened too far relative to their credit fundamentals (Voyage Care, Hiscox, Asda).

During times such as these, when credit spreads compress, we tend to favour going up in quality rather than chasing yield. Looking across the piece for which areas of the market we felt offered the most attractive relative value led us to focus activity in both public and private ABS new issues. Investing in the higher rated tranches of securitised structures can provide additional protection in more challenging credit environments whilst also offering a significant spread pick-up versus equivalently rated corporate bonds. We purchased £0.4m of the mezzanine tranche in the latest issuance from UK credit card issuer Newday, NDFT 2023-1X, which is A-rated by Fitch and returns SONIA+370bps. We also purchased £0.4m in CASTE 2023-2 C, the mezzanine tranche in a UK RMBS securitisation which is rated A by S&P and returns SONIA+320bps.

In the private market we deployed £0.8m into a regulatory capital transaction from a leading UK bank, with the BBB-rated note backed by a diversified portfolio of senior secured UK SME loans. We also invested £1.5m in the refinancing of an existing private deal, although one that was originally funded prior to the Trust’s inception. The borrower is an outdoor media infrastructure owner, investing and managing a 5,000+ billboard portfolio in the UK, Netherlands, Spain, Ireland and Germany with space leased directly to media operators who in turn lease to advertisers. The floating rate, 5-year loan is rated BBB- and returns the equivalent of SONIA+400bps over its term.

Outlook

Financial markets have been buoyed by rate cut and ’soft landing’ expectations, although central bank officials have been keen to reaffirm that market pricing for the path of interest rates runs strongly counter to their base case. The recent rally in bonds and equities has been driven by the expectation that financial conditions will loosen notably as the year progresses, and current asset valuations are predicated upon this assumption. Though optimism is warranted given the progress made in reducing inflation, it does feel like the market has got ahead of itself both in the magnitude and timing of rate cuts being forecast in 2024. Sticky service prices, high wage growth and rising rental costs are hurdles that suggest inflation will prove particularly stubborn over the ‘last mile’. In our opinion, aggressive cutting of interest rates doesn’t appear the most likely outcome given the hawkish bias of central banks thus far, with lessons of the past on resurgent inflation likely to factor into decision making. It should also be noted that the Fed look best placed to engineer a ‘soft landing’, whilst the Bank of England and ECB face bumpier rides given the more difficult economic backdrop in Europe. That said, whether market implied cuts for sterling interest rates do materialise, or we see the slower rate of cuts signalled by Bank of England officials, both scenarios would see the Company’s dividend remain elevated, in the range of 8-9% over the year (based on a dividend return of SONIA+4%).

We enter the new year riding a wave of investor exuberance, though in our view it feels complacent to assume smooth sailing from this point onwards. Monetary history has shown that the full effects of interest rate rises typically operate with an 18 month lag, which would suggest the shockwaves from sharp hiking cycles are yet to fully reverberate through the economy. Therefore, it still remains to be seen whether the expected ‘soft landing’ does in fact turn into a ‘hard landing’. Both scenarios will ultimately result in the rate cuts much desired by markets, however if the driver of cuts is to prevent a recession rather than having successfully steered inflation back to target, the economic implications will be far less positive. Consequently, we prefer to remain defensively positioned at current credit spread levels, favouring a move up in quality, rather than reaching for yield.  A more challenging and uncertain economic outlook highlights the requirement for fundamental credit analysis as the backbone to fixed income investing in 2024. With maturity walls really coming in to focus this year and corporate issuers starting to feel the bite from the lagged effect of higher interest rates, balance sheet and structural analysis will be key to determining issuers ability to service and refinance debt as well as assessing profitability and revenue generating capabilities.

Both domestic and foreign politics are poised to play a more central role in financial markets in the next twelve months. Geopolitical tensions are as heightened as they have been for decades as the Russia-Ukraine war looks set to move into its third year, whilst the conflict between Israel and Hamas still threatens to engulf the Middle East. Recent attacks by Houthi rebels on commercial shipping in the Red Sea have prompted UK and US armed response, although at present markets appear to have largely shrugged off the threat of escalation. Should tensions between Palestinian backers and Israel’s Western allies spill over, the threat to global trade and oil prices could significantly impact an already precariously positioned global economy. Additionally, a lagged inflationary upside effect from increased shipping costs could factor into ECB or Bank of England rate cutting decisions in the latter part of the year. Domestic politics will also be in focus with elections in both the UK and US expected in the second half of 2024. Recent events have shown how sensitive the UK market can be to surprises in fiscal policy, and as the election approaches both parties may look to unveil spending plans in the hope of attracting voters which could unnerve bond markets.

Some termed 2023 as the “Year of the Bond” and as we move into 2024, many of the favourable tailwinds in fixed income markets look set to continue. The technical backdrop remains strong, with all-in bond yields still screening favourably to other asset classes, which should keep credit spreads well anchored. Our focus in the first part of 2024 will be to continue to identify the best available risk-adjusted opportunities in order to maintain the strong income generating properties of the portfolio, whilst remaining disciplined on price, and being both nimble and flexible in investing across both public and private markets.

Link Company Matters Limited

Company Secretary

26 January 2024

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