Bond yields still look attractive, but investors are earning little extra for taking on corporate credit risk, according to Thornburg Investment Management.
Key Takeaways:
- Investment-grade spreads reached their tightest point since 1998, while high-yield spreads matched pre-2007 levels.
- Even modest economic or policy shocks could widen tight spreads and push bond prices lower.
- Thornburg’s two active bond ETFs differ from their benchmarks in sector mix and sensitivity to interest rates.
Credit spreads measure the extra yield that companies pay to borrow compared with U.S. Treasurys. Those spreads narrowed to historically tight levels earlier this year, client portfolio manager Phillip Gronniger wrote in a Thornburg report.
Investment-grade spreads fell to roughly 71 basis points, or 0.71 percentage points, their tightest since 1998, the report said. High-yield spreads on riskier “junk” debt hit about 250 basis points, a level last seen before the 2007 credit cycle peak.
That starting point has historically spelled trouble. Since 2000, investment-grade bonds with spreads under 80 basis points trailed comparable Treasurys over the following 12 months. The median shortfall was 1.69%, according to Thornburg’s review of Bloomberg data.
See more: Bond ETFs & Rising Rates: Why Duration Matters Now
High-yield bonds with spreads below 275 basis points fared worse, lagging Treasurys by a median 11.6%, the analysis found. By contrast, those starting above 500 basis points beat Treasurys by a median 10.06%.
Gronniger described the risk as lopsided, since spreads have little room to tighten further. Even modest economic softening or policy uncertainty could widen them and push bond prices lower, he added.
“When spreads are tight and the margin for error is thin, selectivity, quality, and risk control take precedence over maximizing yield,” Gronniger wrote.
