Is the High Yield Party Starting to Wind Down?

With the extended bull run raging on, it’s been a boon for high yield fixed income investors where a risk-on environment has been fueling gains within the riskier bond classes. However, with rate cuts by the Federal Reserve and fears of a global economic slowdown looming, the high yield party just may be starting to wind down.

Even domestically, the market may start losing steam despite a generally strong labor market with a low unemployment rate.

“There is an expectation that the economy is slowing in the United States” said Troy Snider, investment adviser and principal at Bartlett Wealth Management.

With the high yield market getting more risky, it’s necessary for investors to shed some of that risk and get more strategic with their capital allocation. This could mean looking to options like investment-grade debt for higher yielding income sources.

“As a credit debt holder, you’ve got no upside, you only have downside [at this point],” said Pilar Gomez-Bravo, director of fixed income Europe for MFS Investment Management. “At some stage you want to be prudent in your risk taking with levels you’re getting paid for. You enjoy the party, the rally, the momentum, but you have to be diligent.”

Investment-Grade Options

After investors got washed through the May volatility cycle thanks to trade wars, that may have tamped down their risk-on sentiment and this is where a potential buying opportunity exists for investment-grade debt. As a result, high yield has underperformed lately as investors flocked to the safer confines of quality oriented assets like investment-grade debt issues.

With Treasuries yielding just above 2 percent for the 10-year benchmark note versus almost 3 percent a year ago, investors are sourcing for avenues of income without the added risk. Could this mean investors knocking down the doors to quality driven debt?

Investment-grade corporate bond-focused fixed-income ETF options include the iShares Intermediate Credit Bond ETF (NASDAQ: CIU)iShares iBoxx $ Invmt Grade Corp Bd ETF (NYSEArca: LQD) and Vanguard Interm-Term Corp Bd ETF (NASDAQ: VCIT).

CIU tracks the investment results of the Bloomberg Barclays U.S. Intermediate Credit Bond Index. CIU focuses on investment-grade corporate debt and sovereign, supranational, local authority and non-U.S. agency bonds that are U.S. dollar-denominated and have a remaining maturity of greater than one year and less than or equal to ten years.

LQD seeks to track the investment results of the Markit iBoxx® USD Liquid Investment Grade Index composed of U.S. dollar-denominated, investment-grade corporate bonds. LQD allocates 95 percent of its total assets in investment-grade corporate bonds to mitigate credit risk.

VCIT seeks to track the performance of a market-weighted corporate bond index with an intermediate-term dollar-weighted average maturity, namely the Bloomberg Barclays U.S. 5-10 Year Corporate Bond Index. While VCIT holds debt issues with maturities between 5 and 10 years, they are all investment-grade holdings to minimize default risk.

For more trends in fixed income, visit the Fixed Income Channel.