Historically, high yield bonds have performed extremely well following periods of stress like in recent months. Of course, historical performance is no guarantee of future results, but it may shed some light on the probabilities surrounding what to expect from the high yield debt market going forward. The following information, posted by Franklin Square Capital Partners, suggests an allocation to high yield bonds in portfolios could be attractive right now:
- Spreads on high yield bonds have come down from their peak on February 11, but remain above the important 800 basis point threshold.13 According to J.P. Morgan, credit spreads on high yield bonds have ended a month above 800 basis points on only 42 instances over the past 25 years.
- Consider that the average return on high yield bonds for the 1-, 3-, and 5-year periods after spreads closed above 800 basis points were 25.6%, 17.2%, and 13.7%, respectively. Neither the 3- nor 5-year periods have ever turned in negative annualized returns in such cases; the 1-year period posted negative performances in just 2 of 42 instances.14
- Total returns have generally been inversely correlated to credit quality as CCC rated bonds have outperformed their higher-rated peers across all time frames. At the same time, higher quality bonds have shown more consistency in their returns, as they have generated fewer, and more mild, negative performances.14
13 Bank of America Merrill Lynch High Yield Master II Index.
14 J.P. Morgan High Yield and Leveraged Loan Morning Intelligence, February 16, 2016.