The structural case for investing in fallen angels lies in its counter-cyclical or contrarian nature, in our view. Traditionally, an increase in supply due to downgrades is viewed negatively by bond investors, as it often puts downward pressure on prices. However, the dynamics surrounding fallen angels tell a different story.

Historically, the supply of new fallen angels correlates strongly with economic cycles. During periods of economic stress and market volatility, credit rating agencies increase downgrade activity, resulting in a surge of fallen angels. This counter-cyclical uptick in supply can be highly beneficial. The outperformance of fallen angels typically follows this supply increase, as newly downgraded bonds enter the market at depressed prices, offering greater potential for recovery. Thus, in this context, supply becomes a key driver of performance, whereby fallen angels investors buy as the broader market sells.

While many fixed income segments struggle during economic uncertainty, the supply dynamics for fallen angels often present distinctive advantages. The influx of newly downgraded securities at attractive prices can lead to significant recovery opportunities.

Moreover, the contrarian nature of our Fallen Angels Recovery strategy allows us to focus on sectors and issuers that have experienced price overreactions relative to their fundamentals. The eventual reversal of these overreactions often results in potentially higher returns and superior risk-adjusted performance for fallen angels compared to traditional high-yield investments.

Fallen angels tend to be a sector-recovery play as much as an overreaction within sectors. Sectors that are under the greatest pressure tend to overreact, with an even greater overreaction from the fallen angels within that sector. The recovery of cyclically affected sectors contributes significantly to fallen angels.