State Street SPDR ETFs: High yield still on the up

State Street SPDR ETFs: High yield still on the up

June 27, 2024

Fixed Income Outlook
Obligaties (03)

Credit spreads are now historically tight, leading to questions about whether investors are adequately compensated for taking on the additional credit risk.

‘High yield strategies have ticked all of the boxes. They are typically short duration, for the main part because non-investment grade issuers keep issuance to within the first five years on the curve, and there is a meaningful credit spread. Returns year-to-date have been positive and, at a basic level, new highs in equity markets hint that investors remain in a risk-on frame of mind,’ State Street SPDR ETFs analyses today. ‘However, clouds are gathering over the outlook. Data suggests that the US economy is slowing which could put pressure on corporate balance sheets, not least because the financing put in place, largely in the low rate environment of 2021, is starting to roll off, necessitating issuance at far higher interest rates. Credit spreads are now historically tight, leading to questions about whether investors are adequately compensated for taking on the additional credit risk.

Financial indicators of risk are not yet signalling any major stresses. The upgrades/downgrades ratio for non-investment-grade issuers remains below 1 in the US but it is off the recent lows seen in Q4 2022. The Bloomberg US Corporate Bankruptcies Index has now headed lower from levels seen in mid-2023. In Europe, lower absolute yield levels, in part due to the ECB delivering the first cut in the cycle, coupled with an improving economic backdrop should ease the headwinds for high yield.’

Strong Starting Point

‘While there has been some recent spread volatility, the all-in yield of high yield strategies remains appealing. The high yield coupled with the short duration provided investors with protection against a market sell-off. It remains the case that the breakeven (yield-to-worst/duration) on the Bloomberg US Corporate High Yield Index is at over 250 basis points and for the Bloomberg Liquidity Screened Euro HY Index is above 280 basis points. So yields would have to move higher by these amounts before the price losses on the index fully offset the annual yield.’

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