The decision to raise rates has been driven primarily by rising inflationary concerns, oil shocks, and volatile emerging market sentiment giving rise to outflows of foreign capital. The Quarterly Projection Model rate forecast suggests that we will remain in a hiking cycle for the near future, leaving investors debating the pace of the upcoming rate hikes.
The PCCI relies on the Dynamic Factor Model framework proposed by Stock & Watson to illustrate the relationship between a set of macroeconomic variables, including interest rates, and the default probabilities of debt issuers in the market. Simply put, our PCCI shows statistically how the macro-environment impacts the creditworthiness of borrowers, which then allows us to consider the investments most appropriate for inclusion in our funds.
As a general approach, floating rate credit is well suited to a rate hiking cycle, as the coupon rate will reset quarterly, allowing investors to gain exposure to higher interest rates as rates gradually increase. Added to this, the potential for further capital gains is possible if credit spreads continue to compress from 2020 highs. Over time, holders will benefit from harvesting a higher coupon while reducing default risk.
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