1. 2024 could be defined as an extreme compression year as investors chased yield in three main
dimensions: rating, sector and seniority. Ratings compensation has been eroded, while the sub-senior
differential is almost at a three-year low. Financials have consistently outperformed Non-Financials since
the last banking crises stemming from Credit Suisse and Silicon Valley banks in March 2023. Interest rate
products, such as EGBs, SSAs and covered bonds, which sit between Bunds and IG credit, came under
pressure in the second half of 2024, driven by both OAT-Bund spread widening and the move in Bund swap
spreads.
2. Tariffs: a lot of noise around this topic, as expected, with limited visibility, and we cannot comment on every
social media post or news story on it. The uncertainty surrounding Trump’s trade policies has unsettled
markets, raising inflation concerns, complicating Federal Reserve forecasts and driving up global rates.
3. 2025: we see decompression in the three dimensions mentioned in point one, i.e., rating, sector and
seniority. ECB cuts in 2025, together with an assumption of still-high medium-term yields, would be a
supportive environment for credit markets: demand should remain strong, helped by rate cuts steepening rate
curves, thus pushing demand further out along the curve. Growth should be high enough to prevent a ratings
downgrade cycle (or defaults), but not so high as to cause companies to engage in activity detrimental to
credit. Investor consensus still supports OW financials vs. non-fins, despite the marked outperformance
of these sectors since March 2023. While the tightening potential has declined significantly over the last 18
months, the financial sector still offers slightly more upside than the non-financial complex. Two potential
cracks in the wall regarding the OW financials positioning could be: a) a deterioration in the SMEs segment in
Europe due to the macro headwinds, and b) private credit in the US if the recent surge in rates is sustained.
4. We prefer EUR credit in 2025: we expect a moderate tightening in IG and hybrid capital and range-bound
spreads in HY across European credit. EUR credit valuations are not challenging historically or versus other
segments of corporate credit, particularly on an ASW basis, where EUR IG credit barely rallied in 2024. $-IG
recently hit a 30-year low in spreads while both $-HY and £-IG are closer to their 5-year lows and where
slowing growth, fewer rate cuts and the potential for creditor-unfriendly behaviour means that we forecast
wider spreads for $-IG and $-HY.
5. Risks: the main risks to our constructive view could come from: a) extreme Trump policies triggering a
breakdown in the US economy, thus challenging the resiliency narrative; or b) from the Fed reassessing its
current asymmetric bias on policy rates and potentially opening the door to hikes, with the market more
sensitive, at least for now, to b) rather than to a).
A faster and harsher imposition of tariffs could have significant implications for the European economy, and
European politics may struggle to respond in a coordinated manner given ongoing domestic political struggles
in France and Germany. In such a scenario, we would not expect spreads to move to full-recessionary levels of
200bp+ in EUR IG credit, but to levels that reflect an increased risk of at least a mild and potentially prolonged
contraction in the European economy.
6. Primary: January’s issuance in EUR Credit markets represented between 13% and 17.5% of the annual volume
issuance over the last three years. Looking at the start of 2025, January this year is on track to be at the top of
this band. European credit has traded well amid a deluge of supply and political headlines, even given the rates
volatility, a testament to strong technicals, as issuers were paying minimal concessions and YtD cash spreads
remain virtually unchanged despite the constant flow of political headlines out of the US. Inflows are still
mainly being driven by all-in yields, which remain attractive at 3.5% compared with 1% or less for most of the
last decade, and we thus expect another strong year for retail demand.
7. Up in credit quality & short duration: if we expand our horizon to rates products, such as EGB spreads,
covered bonds, and SSAs, then we see that 'high-quality spreads' in general look wide/cheap versus history.
For credit, an environment of more volatile long-end rates suggests poorer risk-adjusted returns in longer-
dated corporate bonds and we would thus favour front-end credit instead.
8. Surging interest rates: the sharp rise in rates has been driven by strong US and EU macroeconomic data –
mostly rebounding European PMI and inflation figures, and robust US employment numbers – coupled with
record-breaking activity in Europe’s primary bond market and escalating political tensions fuelled by Trump &
Elon Musk. Despite the surge in rates, equity markets in the US, UK and Europe have remained resilient, all
returning positive performances since the beginning of the year, suggesting that they are unaffected by the
current rates environment, at least for now. Following the better-than-expected UK & US CPI data, rates have
tightened back by an average of c.15bp.
9. Rates vs. credit spreads correlation: against a backdrop of high interest rates, a sharp rise in real yields has
not historically been enough to push credit spreads meaningfully wider as long as growth is above trend.
Credit markets can handle an orderly grind higher in rates, provided that volatility remains low, with a near-
zero correlation between spreads and yields so far, and little sign that negative total returns are leading to retail outflows.
10. France: record gross issuance of EUR300bn in 2025 to cover the higher deficit, up from EUR285bn in 2024
and EUR270bn in 2023. New Finance Minister Lombard has flagged his aim to reduce the deficit to c.5.5%,
mainly via spending cuts. The fracturing of the New Popular Front, with even the Greens distancing themselves
from Jean-Luc Mélenchon’s faction, underscores a turning point. This division could ultimately push other left-
wing parties to finalise a deal with the government to ensure stability. This normalisation provides a breath of
fresh air for French credit and we can now be more constructive on French corporates and banks.
11. Politics/geopolitics: the landscape will be busy in 2025 with developments across politics with Donald
Trump’s return, actions by the new French government, Austria's far-right party close to appointing its first
chancellor, geopolitics within Ukraine, Russia or China, macroeconomic developments with inflation
overshooting in Europe and the US amid slowing European growth, microeconomic stories with 4Q earnings
season starting, central bank moves (or not) and more.
The credit markets were able to ring-fence political noise far more effectively than in the past last year, but
spillover remains a risk and still presents a headwind for credit investors, even if only temporarily.
12. Inflation comeback: we see inflation headlines and close monitoring coming back in 2H25 to a similar extent
to what we saw in 2023. The recent US data should confirm the robustness of the US economy, supporting US
rates and the Fed’s hawkish monetary policy. Overall, we suspect the notable deflation in goods prices
observed last year is now largely behind us, with goods price inflation more likely to run around or slightly
above zero. Services prices, on the other hand, appear likely to continue to fall further after a recent bout of
stickiness should the labour market continue to gradually cool further, as we expect, and rental prices
continue to climb down from earlier elevated levels. Although US CPI inflation should continue to come down
in the next few months, incoming policies pose clear risks to the inflation outlook in 2H25.
13. Macro: US exceptionalism (GDP growth of 3% and 2.5-3% inflation), and hence the US-Europe divergence
story, remains intact, reinforced in 2025 by the AI theme, potential deregulation and changes in trade, fiscal
and energy policies, leading to uneven policy rate normalisation. The political outlook in France and Germany
adds another layer of uncertainty just when Europe needs to avoid fragmentation risks in this convoluted
global geopolitical environment.
14. ECB: strong non-farm payroll data may herald the end of Fed cuts, but the bar for the ECB to stop easing
would be much higher due to the weaker productivity, demographics, sluggish GDP in core countries, such as
France and Germany, and structural underinvestment. Markets are pricing in c.1.80% for Sep-25 and 1.75%
for YE25, which seems fair to us given the inflation risks in 1Q25 and the ECB’s reluctance to move particularly
fast.
15. Fed: the FOMC minutes from the December meeting show broad support for additional cuts this year, but at a
slower pace, and provided that inflation continues to moderate. Our base case now is that the Fed will remain
on hold until at least the summer; following the release of the December US CPI, investors have shifted
expectations for a Fed cut to July, earlier than previously anticipated in September. Persistently elevated
inflation expectations would likely cause the FOMC to adopt a more hawkish stance and give up on rate cuts
for at least this year. Needless to say, the start of another hiking cycle could be quite negative for credit and
defaults, as was seen in the 1980s.