The rally we have witnessed in the equity markets since October 2023 has also extended into fixed income, particularly into High yield bonds. It is true that junk bonds yields have doubled since ‘22, as official rates and the yield curve shifted higher, but yields have contracted recently, perhaps consistent with the expectation that the Fed will cut rates in the following months. 8% yield with a potential default rate between 2-4% (as expected by analysts and the market), appears to offer a compelling opportunity for a balanced portfolio to obtain double digit returns. We have had the interest rate cycle, where rates have gone up faster than ever, but we haven’t had a credit cycle; shouldn’t we have an episode of widening spreads and a wave of defaults and restructuring as we did in the past? If rates will, in fact, be higher for longer, we shall see a full credit cycle play out.
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Chart source: WSJ
