- Some high-yield bonds are trading at a 14 percent annual yield. Even junk bonds are yielding in excess of 8 percent.
- Problem is that many investors seem to be getting out of these sectors of the market.
- The Federal Reserve has lessened its monetary loosening. The floor to the high-yield market seems to be rising and will likely continue to rise.
According to Eric Platt in the Financial Times, "investors have pulled $4.3 billion from mutual funds and exchange traded funds for the sector since the middle of April, according to research firm Lipper."
"Sales of new bonds issued by junk rated groups this year are down 9 percent from 2014, while leveraged loan origination has fallen more than a third…"
Furthermore, "Investors are also monitoring a string of disappointing earnings and revenues during the third-quarter reporting season."
"Credit fundamentals have broadly deteriorated, as companies levered up to fund acquisitions, share buybacks and dividends in the easy-money era."
"Standard & Poor's has downgraded more companies in 2015 than in the past two year combined."
And, writes Mr. Platt, "Failures are expected to tick higher during the coming months, with S&P expecting the trailing 12-month default rate to approach 3 percent by the middle of 2016 from 1.8 percent in 2014."
"Data from Fitch show spreads on credit default swaps widening 8 percent in the third quarter from a year earlier."
What's happened? Well, for one, the Federal Reserve ended its third round of quantitative easing in October, one year ago. The Fed's monetary policy was tightened because it was not as expansive as it had been. The Federal Reserve has also been threatening to raise its short-term policy rate all of 2015.
Third, the US economy cannot seem to get out of second gear, as the annual compound rate of growth since the economic recovery began in July 2009 has been 2.3 percent. And, the value of the US dollar rose over the past year and one-half and this has further tightened credit for these firms.
In addition, many other nations and areas in the world are suffering from economic weakness.
There appear to be growing weaknesses in other areas of the bond market.
Platt continues "Lipper counts about $132 million of inflows to junk-bond funds in the past week, following the largest two-week outflow since January when $2.7 billion left the asset class. In contrast, $29.7 billion has flowed into the perceived haven of money market funds in four weeks."
This is, of course, good for the Treasury markets as yields on the 10-year Treasury note remain just above 2.00 percent. The yields for 30-year bonds remain under 3.00 percent. Yields on the 2-year also remain low around 0.60 percent. Some investors are even smelling deflation, something not good at all for bondholders.
Again, are the markets telling us something? The message I get here from the markets is that there is more and more doubt that the Federal Reserve will be able to bail out these lower credit corporations from their follies like they have over the past six years. And, with all the uncertainty that exists in the world right now, stretching for yield is not necessarily a good thing.
This movement in high-yield bonds or junk bonds is not an anomaly when the credit cycle is coming to an end. However, with Robert Shiller's CAPE measure, which can indicate that the stock market is overvalued, this behavior in the bond market cannot tell you much about the timing of a correction.
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