Hybrids: Return/risk profile remains in demand

As in 2024, hybrid bonds are outperforming senior corporate bonds YTD. This trend is likely to continue for the time being. The sectors dominating the hybrid market (e.g. utilities, telecoms) are not directly affected by US tariff policy. Green hybrids already account for almost 30% of all hybrids. We do not currently see a ‘greenium’.

Overweight of defensive sectors offers advantages

The spread widening following US President Trump's announcement of high ‘reciprocal’ tariffs on 2 April (‘Liberation Day’) was more than reversed after the temporary reduction in tariff rates. Hybrid bonds initially reacted to Trump's tariff announcements with sharp spread widening. However, in economic terms, the majority of the outstanding hybrid bond volume would only be indirectly affected by high US tariffs. This is because hybrid bonds are mainly issued in defensive, non-export-dependent sectors (utilities and telecoms account for around 51% of hybrid volume). This should make them attractive to investors in times of trade disputes and economic weakness.

The strong performance of the previous year (just under 8% total return for IG hybrids) will not be repeated in 2025, as the potential for spread narrowing is lower and the ECB's cycle of interest rate cuts is likely to be over for the time being. Risk premiums are likely to already anticipate a good part of the expected economic recovery. The yield spread between hybrid and senior bonds is at its narrowest in years. Nevertheless, there are many reasons to believe that hybrid bonds will continue to outperform senior bonds, at least until the end of the year. However, the main reason for this is likely to be their subordinated nature and thus higher yields, rather than further spread tightening. Over a 12-month horizon, performance in line with their current average yield seems realistic for IG hybrids

IG-rated oil & gas hybrids appear undervalued compared to IG hybrids from utilities and telecoms due to their slightly better average ratings. Investors seem to price in transformation risks in the oil & gas sector. At around EUR 20bn, more hybrids have already been issued this year than in the entire years of 2022 and 2023, which were marked by interest rate hikes. It is quite possible that new issues will exceed redemptions in 2025. Conditions for issuers have improved significantly, partly due to spread tightening.

High proportion of utilities, thus high proportion of green bonds

Diversified hybrid bond investors are generally also heavily invested in green bonds. Green bonds now account for almost 30% of the rated hybrid bond market. At ~23% to date, the share of green hybrid issues in total hybrid issuance volume is still well below last year's level, which set a new record at over 41%. Utilities currently account for 70% of outstanding green hybrid volume, with telecoms accounting for 16%. We see no clear indication of a ‘greenium’, i.e. a lower risk premium for green hybrids compared to conventional hybrids. This also means that investors in green hybrids should not suffer any disadvantages in terms of returns.

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