Key Insights

• Investors in European investment-grade corporate bonds benefit from both duration and credit spread components that can help balance each other out in a more volatile environment. 
• This makes them very appealing, in our view, as the asset class offers investors potential defensive characteristics, as well as an attractive income opportunity. 
• These dual benefits are particularly important in the current environment as volatility is likely in the remaining months of the year given political uncertainty and ongoing worries about the health of the global economy. 

Investors are grappling with a number of market and economic challenges at present, including an economic slowdown, election uncertainty, and heightened geopolitical risks. These crosscurrents are expected to stoke volatility in the coming weeks and months, but the good news is that investors may find some stability in European investment‑grade corporate bonds. Both duration and credit spread components may offset each other in a risk‑off scenario. We believe this defensive attribute, together with the attractive return potential, makes the asset class an appealing investment choice in this uncertain market environment.  

Best of both worlds  

We believe that the components of duration and credit spread in European investment‑grade corporate bonds are the best of both worlds. In good times when the economy is growing and credit spreads are tightening, the asset class typically does well thanks to the credit element. By contrast, when times are tougher and the economy is weakening, the duration component may kick in as a shock absorber to help offset a widening of credit spreads. 

A good example of this in action was in early August when recession fears fueled a market rout. Yes, credit spreads widened, but this was balanced by the fall in government bond yields, which helped to stabilize returns overall. This demonstrates resiliency and is a very powerful benefit, in our view, especially given the number of risk events on the horizon that could stoke volatility.  

Shock absorber role  

A quality that is often overlooked in European corporate bond markets is the diversity of the asset class. It covers 18 industries and almost 900 companies from over 25 countries, including those outside Europe that issue bonds in euros, such as the U.S., the UK, and Japan. It is vast, with the potential to diversify opportunities, as well as to act as a potential performance cushion at times of uncertainty. An interesting observation from the French election was that the contagion to corporate bonds was kept fairly contained to French banks. This ability to dampen political risk is encouraging and will likely continue to matter as the situation in France remains uncertain and there’s growing unease over the financing of large fiscal deficits in Europe.  

Aside from political risks, the macro environment looks set to be challenging through the remainder of 2024. Data releases are likely to be scrutinized, with any misses potentially stoking recession fears and volatility in markets. But European corporate bonds are supported by their high credit quality. As of the end of August 2024, the average credit quality of the benchmark was A‑,¹ which is higher than the rating of some eurozone countries.  

Furthermore, a key aspect of the market is its duration profile, which averages around 4.4 years.² This means there is potential for European investment‑grade corporate bonds to benefit if economic data worsen and that leads to more interest rate cuts from the European Central Bank. At the very least, the duration component could help to act as a shock absorber in the event of a risk‑off move that leads to credit spreads widening.  

Balance of income and stability  

Despite the recent fall in yields, European corporate bonds continue to offer investors a potential compelling long‑term income‑generating opportunity. As of the end of August 2024, the average yield on offer in European investment grade was around 3.46%—which is well above the average level of 1.55% observed in the last decade.³ In all, we believe that European corporate bonds offer investors a good balance of compelling income and portfolio stability. But active management and skilled security selection powered by in‑depth fundamental research is imperative in the current climate of macro and political risks. 

¹ Bloomberg Euro‑Aggregate: Corporate Bond Index. Source: Bloomberg Finance L.P.

² As of August 31, 2024. Weighted average duration of the Bloomberg Euro‑Aggregate: Corporate Bond Index. Source: Bloomberg Finance L.P.

³ As of August 31, 2024. Yield to worst of the Bloomberg Euro‑Aggregate: Corporate Bond Index. Source: Bloomberg Finance L.P.

IMPORTANT INFORMATION

This material is being furnished for general informational and/or marketing purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, nor is it intended to serve as the primary basis for an investment decision. Prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources' accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date noted on the material and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request.  

It is not intended for distribution to retail investors in any jurisdiction.