3) The prices of high yield bonds have historically been much more linked to credit quality than to interest rates. Historically, interest rates are increasing during a strengthening economy and a strong economy is generally favorable for corporate credit and equities alike. Due to the nature of the high yield bond market, the major risk on the minds of investors is default risk (not interest rate risk), causing them to be much more concerned with the company’s fundamentals and credit quality than interest rates. When the economy is expanding, profitability, financial strength, and credit metrics often improve as well. So a stronger economy would undoubtedly be a positive from a credit perspective and would indicate lower default rates (on top of an already very benign default environment), meaning improved prospects for the high yield market.
4) High yield bonds are negatively correlated with Treasuries. This means that as Treasury prices go down due to yields (interest rates) increasing, high yield would theoretically experience the opposite change (increase) in pricing. Additionally, while high yield is still positively correlated to investment grade, it is a fairly low correlation; yet, we see a strong correlation between investment grade and Treasuries. As a recent J.P. Morgan report explained, “Over the past 15 years, high-yield bonds and loans exhibit correlations to movements in the 10-year Treasury bond of -0.2 and -0.4, respectively, versus a far higher correlation of +0.6 for high-grade bonds.” Looking over just the last five years, we see a similar takeaway.4