Amidst market volatility, high inflation, geopolitical uncertainty, and rising rates, high-yield fixed income may be a good bet this year. Dave Sekera, chief U.S. market strategist for Morningstar, cites a strong economy, low sensitivity to rising interest rates, and a yield advantage over higher-quality corporate and government bonds as the primary factors providing high-yield bonds with tailwinds in 2022.
Sekera notes that “the impact of rising rates has led to significant losses across the fixed-income universe.” But since Morningstar forecasts relatively strong economic growth in the U.S. over the next three years, there’s value in corporate fixed income, particularly high yield.
Currently, the effective yield of Morningstar’s high-yield bond index is 5.86%, well above the 3.66% yield of its investment index, or the 2.33% of the U.S. Treasury index. In a rising rate environment, the higher yield carry of high-yield bonds will help to offset principal losses.
“In an environment where we expect interest rates to continue rising, investors should focus their allocations within medium-term durations, such as those bonds with 5.0-year maturities,” writes Sekera. “The credit spread for investment-grade bonds is less than for high yield, and investment-grade bonds often have longer maturities.”
While investment-grade fixed income has longer duration and is more sensitive to interest rates, high-yield bonds generally have shorter duration due to their higher yield and shorter maturities. This makes high-yield bonds less sensitive to interest rate risk.
In February, BondBloxx launched seven U.S. high-yield bond ETFs that offer precise, index-based exposure to the high-yield asset class and allow investors the opportunity to diversify and manage risk to the industry sector. The funds are passively managed and track rules-based sub-indexes of the ICE BofA US Cash Pay High Yield Constrained Index.
BondBloxx was founded by ETF industry leaders Leland Clemons, Joanna Gallegos, Elya Schwartzman, Mark Miller, Brian O’Donnell, and Tony Kelly. The team has collectively built and launched over 350 ETFs at firms including BlackRock, JPMorgan, State Street, Northern Trust, and HSBC.
According to the issuer, more institutional investors are acknowledging the role that fixed income ETFs can play in their portfolios, even during times of volatility. They can offer short-term liquidity while offering a more efficient way to keep portfolios in balance. Sector ETFs enable intentional tactical tilts to be added to their portfolios. They can also enhance price discovery, even when transparency is low, or the underlying securities are not trading.
“One of our goals at BondBloxx is to provide market awareness of the variation of returns within the credit markets,” said Schwartzman. “An important yet unappreciated source of outperformance for investors is the dispersion of returns within the broader bond market categories, especially during times of market dislocation.”
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