After a 0.07% positive move the in the Bloomberg Barclays US Corporate High Yield Index yesterday*, the high yield bond market is a bit softer today, fueled by the 10-year Treasury yield moving past the key 3.03% level, putting it now at a level not seen since 2011 and 2013. Will it last? There are consequences to higher rates. Many point out that rates are still low as compared to past economic cycles, but in past cycles the US didn’t have $20T in debt to service. Also, savers will earn a few more bucks in CD’s and the like, but what will this do to the housing market as mortgage rates rise?
Today’s Empire State manufacturing index report and retail sales report got the Treasury yields moving higher and the equity markets moving lower. April sales were healthy, while March sales were upwardly revised to reveal even greater strength and this is creating inflation fears. Also, oil is at a multi-year high and this is striking fear that this too will cause more inflation. The catch 22 is that costs might go up but if wages in this tight labor market don’t follow that could ultimately hurt spending.
Despite this rise in the Treasury yields, we believe that the high yield bond market is still an attractive place to be for fixed income, with its low duration and high coupons and a solid corporate environment. As evidence of the corporate strength, Moody’s projects that the U.S. speculative grade default rate will decline to 1.5% by April 2019 from current 3.7% level.
Only one high yield new-issue priced yesterday with seven on the forward calendar; we shall see how coupons and issuance price works out now that Treasury yields are higher. As an active manager, we have the flexibility to sell lower coupon paper that we believe is at full value and replace with higher coupon new-issues or newly issued bonds that reflect this higher rate environment. Click here to check out our recent writing “Strategies for Investing in a Rising Rate Environment” as we look in more detail about the high bond yield market in the face of rising rates.