Quarterly Review

M&G CREDIT INCOME INVESTMENT TRUST PLC

(the “Company”)

LEI: 549300E9W63X1E5A3N24

Quarterly Review

The Company announces that its quarterly review as at 30 June 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

The impact of inflation and higher interest rates on economic activity remained in focus in the second quarter of the year. Core inflation (excluding food and energy) continued to prove stubbornly persistent whilst labour markets remained at undesirably tight levels. The European banking sector showed no signs of contagion following events in March which meant market volatility reduced and paved the way for investor sentiment to improve as the period progressed. The release of May CPI figures in the US and Europe provided downside surprises as disinflationary trends began to materialise. The UK however, remained an outlier, with CPI coming in notably higher than expected at 8.7% and household bills rising at the fastest rate in the G7. This sparked a fresh sell off in UK government bonds which continued to underperform peers. Central banks remained steadfast in their commitment to fighting inflation and continued to raise interest rates over the period. The Fed hiked 25bps but then paused at its June meeting whilst maintaining hawkish sentiment and signalling further rate hikes to come. The ECB hiked in line with expectations (25bps), while the Bank of England decided upon a higher-than expected increase of 50bps. Despite the sharp rise in interest rates, economic growth remained robust albeit showing signs of slowing, driven by a solid labour market which is maintaining consumer spending. Whilst the consensus view still considers a recession more likely than not, investors increased bets that a downturn will be less severe than feared which prompted a return in risk-on sentiment as the period drew to a close.  

Manager Commentary

Pleasingly the Company delivered strongly positive performance for the third consecutive quarter. The Company’s NAV total return in Q2 was +1.36% which outperformed comparative investment grade fixed income indices such as the ICE BofA Sterling Corporate and Collateralised Index (-3.40%) and the ICE BofA 1-3 Year BBB Sterling Corporate Index (-0.96%). Performance was driven by income accrued over the quarter as our short position in the UK 10 year gilt mitigated against the negative effect of rising interest rates.

In April, we took advantage of the more positive market backdrop to exit positions in troubled issuers Intu (SGS) and Boporan, both of which had materially underperformed. Portfolio activity increased into May as we rotated out of tighter yielding bonds, redeploying proceeds into comparable or higher rated asset backed securities (ABS) and collateralised loan obligations (CLOs) purchased at new issue. This provided a significant spread pick-up and improved both the overall yield and credit quality of the portfolio. We continued to add, what in our opinion, were attractively priced private assets into the portfolio as the pipeline of opportunities improved. These included two secondary market loans in the infrastructure space, a sector where we are less active due to the lower returns typically on offer in primary market transactions. The first, is an investment grade quality waste-to-energy (utility) asset, the second, a senior secured loan issued by a prominent player in the UK’s alternative network (fibre broadband) space which we negotiated to purchase at a notable discount to par, meaning the loan will return significantly in excess of our target return over its term. In June we took advantage of issuer specific volatility relating to Thames Water to purchase operating company debt in the secondary market, which in our opinion had been oversold to price attractively on a risk-return basis. Following an agreement with shareholders to inject more equity, the bonds have already retraced more than half of the credit spread widening seen during the sell-off. The portfolio was affected by one of the biggest stories in European bond markets over the period, as developments at French supermarket retailer Casino resulted in a notable deterioration in the value of our holding in the unsecured notes (less than 1% of NAV). Recovery prospects at this stage now look bleak with a full write down of the position possibly required. The position is already marked to market within your Company’s latest NAV. In a more positive credit story, we sold down our holding in Italian energy company Enel following significant spread tightening which allowed us to realise healthy gains on a bond that has performed strongly since being purchased at new issue.

Outlook

Risk sentiment in markets remains fragile, driven by a number of economic indicators which are considered influential to central bank decision making on the path of interest rates. Two competing market narratives have been established. A “hard landing” – in tightening rates to curb inflation a recession is triggered, and a “soft landing” – economic growth slows enough to control inflation but remains high enough to avoid a recession. At present, the pricing of risk assets is being driven by perceived changes in the probability of each outcome. Fundamentals in credit are generally supportive for now but look set to come under further pressure in the latter part of year as the effects of aggressive rate hiking cycles really start to bite and the capital structures of issuers are tested by the higher interest rate environment. We expect that technical elements (supply/demand imbalance, attractive all-in yields) alongside enthusiasm for the soft landing narrative will support a grind tighter in credit spreads over the summer months. Disinflationary trends are becoming more evident although core inflation remains stubborn and closely watched by central banks. Whilst recent corporate earnings in Europe and the US remain constructive, they do highlight a slowdown in consumer and industrial demand and US Fed Chair Powell recently acknowledged that “restrictive” monetary policy was now “putting downward pressure on economic growth and inflation”.

Looking further ahead, we anticipate interest rate volatility to continue as central banks struggle to return inflation to their 2% target in the face of a fundamental shift in price dynamics driven by longer term structural trends including deglobalisation, a reduced labour supply, and decarbonisation. This should force policy rates to stay higher for longer. Uncertainty over monetary policy looks set to persist with central bank decisions remaining data dependent and on a meeting by meeting basis for the foreseeable future. The inflation outlook for the UK is expected to weigh on its economic growth prospects and at present it remains an outlier among G7 nations, having the highest consumer price inflation by some measure. Global dynamics we believe could have a bearing on markets over the remainder of the year include the economic growth outlook for China, renewed commodity inflation arising from an escalation in the conflict between Russia and Ukraine, as well as a potential shift away from yield curve control by the Bank of Japan.

We believe that the Company’s investment strategy is well suited to the wider regime shift in financial conditions that we are witnessing. As interest rates remain volatile and sharp upward moves retain the ability to seriously hinder performance, we mitigate this risk by maintaining low portfolio duration. Furthermore, the additional yield that private assets have provided to our portfolio has also acted as a boost to income returns. Prior to the onset of Covid-19, strong risk asset performance was driven by ultra-accommodative monetary policy, benefitting greatly from “a rising tide lifts all boats” economic backdrop. Waters are now far more choppy. Constructing bottom-up portfolios based on fundamental credit analysis is at the core of our investment philosophy. We see clear strategic advantages in this approach for navigating financial markets in the changing times ahead where there will be a far clearer demarcation between winners and losers within assets classes, sectors and regions. We are currently seeing a healthy and diverse pipeline of private investment opportunities across a range of sectors, which should be given a tailwind by tighter bank lending conditions. Maintaining flexibility to invest across both public and private markets whilst remaining sector agnostic will be essential to pursuing the most attractive relative value opportunities.

Link Company Matters Limited

Company Secretary

10 August 2023

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