Historically low interest rates have left investors with fewer fixed-income options to bolster portfolio yield. We think high-yield bonds—issuers rated BB or below—have become more attractive recently. High-yield spreads compared to US Treasuries are much wider than they were for most of 2021 and are now above the five-year average of 350 basis points.
Historically, when high-yield spreads widen, it signals a broad deterioration in company fundamentals. But now, post-pandemic global inflationary pressures, looming US interest-rate hikes and, most recently, geopolitical tensions in Europe are behind the trend—not credit deterioration.
In these new conditions, the high-yield credit market now offers much better risk-reward potential—if you’re selective.
Although valuations are still modestly expensive compared with historical averages, fundamentals for high-yield bond issuers are also strong. Many companies took advantage of low rates in 2021 to refinance their debt and shore up balance sheets. The high-yield market looks particularly healthy in the US, where default rates remain low and interest coverage—a company’s earnings relative to the interest owed on debt—is well above its five-year average.
Of course, not all high-yield issuers fit these criteria, so investors need to stay diligent in their fundamental research and issuer selection. But with an average yield of around 6% and a strong fundamentals foundation that may help limit downside risk, we believe that high-yield bonds present an attractive risk-reward proposition for a diversified multi-asset portfolio.
The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams and are subject to revision over time.