What junk bonds are reporting for this summer after Monday’s heavy rout

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Expect more volatility this summer, but maybe not as bad as Monday’s steep market rout.

That’s the message from the riskiest part of the $ 10.7 trillion U.S. corporate bond market on Tuesday, a day after non-investment grade, or junk bond, spreads widened. by 22 basis points.

“At some point, spreads cannot continue to fall,” said Collin Martin, a fixed income strategist at the Schwab Center for Financial Research, who estimated Monday’s liquidation was the biggest rise in spreads in junk bonds since November. “This is not to be despised. ”

“I think this is probably a red flag for some investors,” he told MarketWatch. “The race was so smooth, but there are risks. There comes a time when you are not compensated enough.

Spreads on U.S. junk bonds had widened since early July, from record lows of around 302 basis points above Treasuries three weeks ago to 344 basis points on Monday, a level seen for the last time in October.

Spreads on the rise of junk bonds.

Federal Reserve Bank of Saint-Louis

Spreads are the level of compensation investors earn on bonds above a risk-free benchmark, such as TMUBMUSD10Y Treasuries,
1.223%,
to help offset the risk of default. Lower, or “tighter” spreads often signal a hunt for yield by investors or an increased appetite for risk, even if buyers are paid less.

Martin de Schwab said that while relaxed US monetary policies have kept credit to companies rated as garbage during the pandemic, some of the “broader support we have seen over the past year and more are no longer. the”.

Like others, he thinks markets may have already benefited from the “peak of everything,” including growth, profits and fiscal stimulus. The Federal Reserve also sold off the rest of its corporate debt holdings accumulated during the crisis, after making a historic leap in the sector during the pandemic.

Lily: Is the Fed’s “tightening cycle” already underway?

On the positive side, defaults in the junk-bond market were close to their all-time lows. The Fed has yet to signal a pullback in its monthly $ 120 billion bond purchase program, treasury bills and agency mortgage debt, while benchmark rates are expected to stay close to zero through to zero. in 2023.

“There are a lot of positive factors there,” Martin said. “I hope the rally we are witnessing today continues.”

The Dow Jones Industrial Average DJIA,
+1.62%
On Tuesday, it recovered most of its 725-point drop the day before, its worst drop since October, amid concerns over the spread of the delta variant of COVID-19 and rising U.S.-China tensions.

On Tuesday, publicly traded junk-bond funds, including the closely watched SPDR Bloomberg Barclays High Yield Bond ETF JNK,
+ 0.43%
and iShares iBoxx $ High Yield Corporate Bond ETF HYG,
+ 0.51%,
increased by 0.4% and 0.5%, respectively.

“The market was expecting a pullback,” said David Norris, head of US credit at TwentyFour Asset Management, adding that his team took advantage of Monday’s sale to add names they liked, while getting paid a bit more.

“As the summer months approach, there are usually lighter flows and thinner markets,” he told MarketWatch.

But when you add the increased awareness of the delta variant and the increase in COVID cases, Norris believes the “next six to seven weeks” leading up to the Fed’s summit in Jackson Hole, Wyo, in late August, could be agitated.

“We expect a little volatility, but nothing like yesterday,” he said.

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