Readers of this blog site will know that I am an advocate of long term strategic investing, global multi-asset diversification, and tracking of diverging relationships between and within asset classes. One asset class that I have previously commented, the high yield bond (“junk bond”) market, bears notice again.
The coronavirus pandemic initially shocked the high yield bond market causing a spike in their credit spreads to over 1,000 basis points (10%) back in March. A jump in credit spreads is usually attributable to an increased potential for bond defaults and investor losses causing bond prices to fall.
This year’s ensuing dramatic weakness in the economy and the resultant recession prompted extraordinary actions by the Fed and Congress with fiscal policy. As of today, high yield bond spreads are at the post-crisis low of about 528 basis points. Though not at the early-2020 lows of 338 basis points, the recovery has been notable.
The chart below is instructive on the paths we can follow. The last recession back in 2007-2009 (the grayed-out area) was preceded by a jump in spreads for about a year from December 2007 to November 2008. The peak spread then of almost 2,000 basis points was much higher than levels reached this year, so at least in theory, more poor performance is possible during a protracted recession.
However, from March through today, you can see the decline in credit spreads and most economic and capital market action has been driven by news on the progress in the fight against the coronavirus pandemic. With strong Fed and fiscal policy used as a backstop, the some parts of the capital markets have partly recovered from a near meltdown; though some still have not! The economy is still very weak and coronavirus surges grab the headlines. News on a vaccine and treatment are a good offset to the bad news.
High yield bond market spreads are one indicator to follow to help us gauge the strength of the recovery. This is one positive nugget of news to help lead us out of the current situation.