Mid Week Bond Update

High Yield: Fundamentals Matter

Global Thought Leadership
11 March, 2020

The crude oil conflict between Saudi Arabia and Russia was clearly visible in high-yield credit spreads.

The selloff in fixed income credit sectors sparked by the oil price war clearly underscores the importance of sector and credit selection.

In terms of credit spreads, the most severe widening took place in the high-yield (HY) energy sector, where average spreads widened to 1,417 basis points (bps)1  immediately after crude oil began plummeting. HY spreads excluding energy widened to a relatively small 534 bps; with energy credits included, overall HY spreads reached 626 bps.

Average spreads of investment-grade U.S. Corporates rose as well, reaching 172 bps. However, that spread is small only in comparison to HY credits; as recently as February 12, 2020, the average spread on Corporates was as low as 95 bps. In Corporates, the blow-out in spreads could be a harbinger of increased financial stress resulting from the unpredictable impact of the COVID-19 coronavirus.

U.S. High Yield Credit Spreads, March 11, 2019 – March 10, 2020.

Source: Bloomberg, as of March 10, 2020. Spreads are option-adjusted (OAS) for these Bloomberg Barclays indexes:  High Yield Energy; US High Yield ex Energy; US Corporate High Yield; US Aggregate Corporate. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

In the current environment, with technicals driving some yields higher even in the face of solid fundamentals, it’s clear that selectivity matters, both in sector selection and fundamental credit analysis in actively-managed fixed income.

On the Rise: Russian Yields

Russia’s participation in the crude oil showdown with Saudi Arabia is showing up in its debt and currency.

The yield of the 2-year ruble-denominated sovereign note rose from 5.42% on February 21 to as high as 6.50% on March 10.  But the Russian ruble, which had traded as high as 60.8 per U.S. dollar on January 10, fell by over 10 rubles to the dollar between its February high of 65.3 and its March 9 intra-day low, reaching 75.67 rubles before recovering to 71.2 rubles on March 11. The downward move makes the Russian currency the worst-performing major currency vs the greenback between the March 9 beginning of the crude-oil showdown until March 11, down some -3.9 percent.

On the Slide: U.S. 5-Year Break-Even Inflation

Even if the astounding fall of U.S. Treasury yields over the past week turns out to be momentary, the resultant break-even inflation rates are attention-getting, with one method of calculating the break-even coming in as low as 0.79%, the other reading 1.34%. Both figures are as of the end of trading on March 10; the New York Fed’s own in-house measure, which comes in some days later than the others, shows 1.49% as of March 6.

Whichever of these measures you prefer, one thing is clear – according to this corner of the bond market, current conditions don’t support a belief that inflation will make a big move upward any time soon.

Note: The year for all dates is 2020 unless otherwise indicated

1 All data Source: Bloomberg, as of March 10, 2020, 7:00 PM ET, unless otherwise specified.


The Federal Reserve Board ("Fed") is responsible for the formulation of U.S. policies designed to promote economic growth, full employment, stable prices, and a sustainable pattern of international trade and payments

One basis point (bps) equals one one-hundredth of one percentage point.

COVID-19 is the World Health Organization's official designation of the current coronavirus.

An Option-Adjusted Spread (OAS) is a measure of risk that shows credit spreads with adjustments made to neutralize the impact of embedded options.

Bloomberg Barclays indexes:  High Yield Energy; US High Yield ex Energy; US Corporate High Yield; US Aggregate Corporate OAS, use the following indexes, which represent the OAS for their respective named sectors: Bloomberg Barclays High Yield Energy Average OAS; Bloomberg Barclays US High Yield ex Energy Average OAS; Bloomberg Barclays US Corporate High Yield Average OAS; and Bloomberg Barclays US Aggregate Corporate Average OAS

credit spread is the difference in yield between two different types of fixed income securities with similar maturities but for different credit sectors.

High yield bonds, also called junk bonds, are bonds with below investment-grade ratings (BB, B, CCC for example) and are considered low credit quality and have a higher risk of default.

The Russian ruble is the national currency of the Russian Federation

Break-even inflation is the difference between the nominal yield on a fixed-rate investment and the real yield (fixed spread) on an inflation-linked investment of similar maturity and credit quality. If inflation averages more than the break-even, the inflation-linked investment will outperform the fixed-rate. Conversely, if inflation averages below the break-even, the fixed-rate will outperform the inflation-linked.

The 5-year breakeven inflation rate is a measure of expected inflation derived from "nominal" Treasury securities and their "real" counterparts—inflation-protected TIPS securities.

U.S. Treasury Inflation Protected Securities (“TIPS”) are bonds that receive a fixed, stated rate of return, But they also increase their principal by the changes in the CPI-U (the non-seasonally adjusted U.S. city average of the all-item consumer price index for all urban consumers, published by the Bureau of Labor Statistics). TIPS, like most fixed income instruments with long maturities, are subject to price risk.

U.S. Treasuries are direct debt obligations issued and backed by the "full faith and credit" of the U.S. government. The U.S. government guarantees the principal and interest payments on U.S. Treasuries when the securities are held to maturity. Unlike U.S. Treasury securities, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the U.S. government. Even when the U.S. government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities.

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