In our conversations with investors and advisors, we sometimes hear concerns about volatility within the high yield sector expressed.  People seem to be okay with equities but aren’t sure if the high yield market is too volatile for them—seemingly under the impression that high yield bonds are much more “risky” and volatile than equities.  However, the actual data shows that looking back over the last 25 year history, high yield bonds have shown to have significantly less volatility (as measured by annualized standard deviation of returns) than equities (here represented by the S&P 500 Index).¹

In actuality high yield bonds have had nearly half of the volatility of equities but with similar returns; thus on a risk adjusted basis (using the annualized standard deviation as the measure of risk) high yield bonds have significantly outperformed equities, as noted with a return/risk of 1.08 for the high yield bond index versus a return/risk of 0.65 for the S&P 500 index over this 25 year history.

While this may be true for the last twenty five years, does recent history paint a different picture?  In our writings we have discussed how the post financial crisis Dodd-Frank Bill and Volcker provision have worked to curtail market making efforts by the investment banks and in turn has led to higher volatility within the high yield market.  However, even looking over the last one and three years, it has continued to hold that high yield bonds show less volatility then equities.²  While the drag from high yield’s exposure to energy and commodities has negatively impacted performance in late 2014 through early 2016, bringing down the entire high yield market’s performance during the past three years, we still saw risk adjusted outperformance (return/risk) for high yield over that period.

Yes, along with the higher return potential, high yield bonds are more volatile than some other areas in the fixed income space (such as investment grade bonds); however, history has demonstrated that high yield bonds are less volatile than equities.  We believe that given the historical return profile, high yield bonds can be viewed as an alternative to equities but with less volatility, as evidenced by the historical risk adjusted outperformance versus equities over various periods.

1 Credit Suisse High Yield Index data from Credit Suisse. The Credit Suisse High Yield Index is designed to mirror the investible universe of the $US-denominated high yield debt market, data sourced from Credit Suisse. S&P 500 numbers based on total returns, data sourced from Bloomberg. Period covered is 9/30/91 to 9/30/16. Calculations based on monthly returns and standard deviation is calculated by annualizing monthly returns. Return/risk is based on annualized total return/annualized standard deviation. Although information and analysis contained herein has been obtained from sources Peritus Asset Management, LLC believes to be reliable, its accuracy and completeness cannot be guaranteed. This report is for informational purposes only. Any recommendation made in this report may not be suitable for all investors. As with all investments, investing in high yield corporate bonds and other fixed income securities involves various risks and uncertainties, as well as the potential for loss. Past performance is not an indication or guarantee of future results.

2 Credit Suisse High Yield Index data from Credit Suisse. S&P 500 numbers based on total returns. Calculations based on daily returns and standard deviation. Return listed is for the actual return for 9/30/13-9/30/16. Standard deviation is the annualized number based on the daily returns and an assumed 250 (251 for 2016) trading days per year. Return/risk is based on annualized total return/annualized standard deviation.