Displaying items by tag: high yield

(New York)

Something very ominous has been occurring in junk bond markets over the last week. The lowest tier of junk credits—which had been outperforming the market for much of this year—have been getting hammered. There has been a crash in CCC credits. According to Bank of America, since early October CCCs “have lost 3.25% in total and 3.50% in excess returns … effectively wiping out five months of performance”. That contrasts with the highest quality credits in the junk universe, which appreciated.

FINSUM: CCC had been doing quite well, so one can see this either as a normal return to earth, or early signs of trouble.

(New York)

There is some alarming data flowing out of the bond market. First it was the huge amounts of bond fund withdrawals, and now new info—issuance is plunging. US investment grade issuance fell 34% in October (from September). High yield issuance was down 50% from last October. Overall annual issuance fell a great deal on both fronts as well. The numbers reflect slumping demand for bonds as rates and yields rise. Investors also pulled $3.1 bn from investment grade bond funds in the week leading up to November 1st.

FINSUM: This is not surprising given what has been going on in markets this month. Even the annual figures make sense given the rise in rates. The big worry is to what degree this will translate into lower demand for Treasuries at the same time as the deficit (and issuance) is about to surge?

(New York)

One of the big questions in this market fall is why junk bonds aren’t tumbling in tandem with stocks. Generally speaking, high yield bonds trade in the same direction as small cap stocks as they are driven more by company fundamentals than other areas of the bond market. However, in the recent rout, this was not the case, as junk bonds have continued to perform well. When both markets fall in unison, it usually means there is big trouble brewing, but when they have become uncorrelated, it can mean there is a rally to come. For instance, in 2011, small caps fells strongly, but junk only a touch. In the following months, small caps surged 15%.

FINSUM: We think this is a positive sign for small caps, as high yield investors are not worried about company fundamentals.

(New York)

By now one would have expected junk bonds to have experienced a large selloff. The sector already had a low spread to Treasuries, has mountains of fringe credits, and has been facing a period of rising rates. Yet, high yield has been performing very well, with the weakest credits, paradoxically, performing best. There has been no sustained flight out of the sector, and spreads are higher than at the start of the month, but still not even where they were for much of the year.

FINSUM: The big risk here is that investors aren’t being paid enough for the risks they are taking. The whole junk sector, not to mention the loads of BBB credits that are technically investment grade, are very susceptible to recession and higher rates. At some point there are going to be some major losses.

(New York)

Junk bonds have had a rough monthly, and it is not hard to see why. The rise in yields and the anxiety about stocks have combined to push yields on junk steeply higher, from 6.18% on October 1st to 6.61% now. In aggregate, the bonds are down 1%+ this month. However, the truth is that the losses could have been much worse, and within that idea, is an important story. That story is that ETFs, which have offered much greater ease of access to investors, actually seemed to have supported prices in the recent turmoil. The head of bond trading at Oppenheimer put it best, saying “The ETF market, which was supposed to subtract liquidity from credit markets, is actually adding liquidity by aggregating the risk and bringing in people who want to take macro risk as opposed to micro bond level risk … The ETF market ends up providing the live bid-ask spread that even the credit markets themselves cannot generate”.

FINSUM: This is a fascinating argument as it runs counter to the long-running narrative about how fixed income ETFs could cause a big blow up because of a “liquidity mismatch” between ETFs and the underlying asset.