High-yield corporate bonds suffered – no surprise – a terrible 1st quarter of 2020. The Bloomberg Barclays High Yield Corporate Index (heretofore HYCI) experienced its 2nd worst quarter ever, losing -12.68%. This is obviously bad news. Or is it? Well if you were invested then, the answer is “yes”. But going forward, the answer is not so clear cut. First the potential Good News.
See also JayOnTheMarkets.com: Blood in the Mid-Cap Street = Opportunity
The Potential Good News
Figure 1 displays 11 previous instances when the HYCI lost -3.5% or more during a given quarter, and the performance of the index in the subsequent 3, 6, 9- and 12-month periods.
Figure 1 – Bloomberg Barclays High Yield Corporate Index performance after a quarter lost -3.5% or more; 1983-2020
Figure 2 displays the cumulative growth of the HYCI if held for 12 months after each of the worst quarters displayed in Figure 1.
Figure 2 – Cumulative % +(-) for Bloomberg Barclays in 12 months after quarter than saw a decline of -3.5% or more; 1983-2020
Clearly, the results displayed in Figures 1 and 2 are favorable and the implication is that junk bonds “should” do well in the next 6 to 12 months. This seems like an optimal time to invoke the “past performance does not guarantee future results” mantra.
The Potential Bad News
The outlook for corporate bonds – especially bonds of companies that were already on less than investment grade ground – going forward is more than just “murky”, it is essentially unknown and entirely unpredictable.
On one hand a person can easily construct a “best case” outlook and project that the economy will rebound quickly once things are opened up again. At the same time, it is just as easy to envision a pretty harrowing “worst case” scenario, one which involves a lot of companies defaulting/going bankrupt/etc. in light of the recent economic shutdown.
Anyone who tries to tell you with great certainty that it will be one of these scenarios – or somewhere in between – is merely guessing.
Summary
The bottom line: For an investor willing to assume the risk, high yield bonds appear to be offering a decent “contrarian” bullish opportunity. As always, I am not making a “recommendation”, just alerting you to, a) history, and b) the unique risks going forward.
An investor interesting in making this play could buy a mututal fund such as VWEHX, or an ETF such as HYG or JNK.
But whatever you do…. don’t bet the ranch.
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented does not represent the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
