A steady decline in yields at the speculative end of high yield debt suggests growing investor appetite.
A troika of conditions exist for investors interested in pursuing greater returns through US junk bonds: Treasury yields are slipping, low volatility and an equity market that held several rallies and record highs.
Yield best at bottom of the pile?
There was just one issuer coming to market this week with a $1.5 bn offering of 10-year secured notes. Year-to-date USD HY gross issuance currently stands at $109.24 bn.
In fact, performance of these assets finished in the red last week as political instability caused global markets to enter risk-off mode in the back half. Last Wednesday alone, after further political revelations, high yield spreads widened 13bps, the largest single-day widening since 14 November 2016.
High Yield Pullback
The BofA report considers two questions that could determine longer term positioning and whether a bearish or bullish stance will be taken.
First, the impact of political uncertainty on high yield and whether or not thre will be a replay of 2014/15 if the Trump adminstration and the Republican party are unable to deliver their agenda.
According to the report a correction may be in line with their prediction for a "strong/fiery winter and early spring should yield a total return of 4-5%, but should eventually give way to an icy back half. As the ECB's Draghi continues tapering and high yield offers less compensation, retail flows have been benign. Should they turn substantially negative, as investors depart from rich US credit in favor of other relatively safer fixed income assets, we think the market could realize a correction."
Fixed interest has historically paid a steady level of income and isn’t usually subject to significant falls in value meaning that investors’ capital should be well protected.
However, the conventional wisdom of fixed interest being low risk doesn’t necessarily work today warns Connolly.