By Paul R. La Monica
The S&P 500 is near an all-time high thanks to the strength of Nvidia and more of its Magnificent Seven tech brethren. But investors are also embracing riskier assets in the fixed-income market. Just look at how high-yield bonds, aka junk bonds, have held up this year while most other bond categories have slid.
The S&P 500 High Yield Corporate Bond Index is up 1.1% this year. Two prominent junk bond exchange-traded funds, the SPDR Bloomberg High Yield Bond ETF and iShares iBoxx $ High Yield Corporate Bond ETF, are flat so far.
That may not sound super exciting compared with the performance of tech stocks or weight-loss drug companies Eli Lilly and Novo Nordisk, but this performance makes high yield a standout performer compared with the rest of the bond market.
The broad-based iShares Core US Aggregate Bond ETF has suffered a nearly 2% decline. Long-term Treasuries have fared even worse. The iShares 7-10 Year Treasury Bond ETF has fallen 3% while the iShares 20+ Year Treasury Bond ETF has tumbled more than 6.5%.
The allure of high-yield bonds is pretty much in the name of the category. These corporate bonds offer income-hungry investors higher yields than they would get from safer investment-grade debt and Treasury bonds. Yields on top junk bond ETFs are currently in the range of about 6% to 7%. The benchmark iShares AGG ETF yields around 3.4% by way of comparison.
The resilience of the labor market has surprised many bond investors. Stronger-than-expected jobs gains have pushed bond yields higher again following a mini-slide this spring. The 10-year U.S. Treasury yield peaked above 4.7% in late April and now yields around 4.41%.
But will junk bonds continue to hold up this well if the Federal Reserve on Wednesday suggests that rate cuts are finally on the near-term horizon?
Some think that junk bonds, as well as safer investment-grade corporates, continue to look attractive.
"The starting point for corporate credit markets is also relatively attractive from a yield perspective. Our return forecasts for investment grade and high yield are roughly unchanged from last year, and these markets appear poised to outperform Treasuries," said strategists at investment firm Cohen & Steers in a recent report.
Strategists at fixed-income investing firm BondBloxx also like junk bonds.
"Robust first-quarter earnings, attractive yields, and healthy capital markets continue to support total returns in corporates [and] high yield, " the BondBloxx strategists said.
They added: "Within U.S. high-yield industry sectors, we remain constructive on high-yield industries that demonstrate strong fundamentals and resilience in the current economic climate, including core industrial, consumer cyclical, and energy."
Cohen & Steers also like preferred securities, which are a hybrid of stocks and bonds, due to their higher yields. Many top preferred securities ETFs own preferred shares issued by large financial firms and yields tend to be above 6%.
"We see good reasons to remain optimistic about preferreds' return potential, including strong fundamentals, attractive valuations, and the end of the rate-hiking cycle," the Cohen & Steers strategists said.
It is interesting they used the phrase "end of the rate-hiking cycle" and not "start of a rate-cutting cycle." With questions about when exactly the Fed is going to start cutting, it would appear that bond investors don't necessarily need to see the Fed ease in the next few months in order for bonds to do well. Rates simply staying steady should be a positive.
That should bode well for other high-yielding securities, such as floating rate debt, also often referred to as senior bank loans or leveraged loans. These riskier loans have many of the same characteristics as junk bonds, including above-average yields. The Invesco Senior Loan ETF and SPDR Blackstone Senior Loan ETF both have yields above 8%.
That makes them attractive now in an environment where most experts believe interest rates are at a peak for this cycle. And they will be like catnip for investors looking for higher yield once the Fed finally does start cutting rates.
Write to Paul R. La Monica at paul.lamonica@barrons.com
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(END) Dow Jones Newswires
June 11, 2024 14:56 ET (18:56 GMT)
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