High Yield Bonds Come to Life

By Bruce DeLaurentis - November 2020

Much to our benefit and to the surprise of most, high-yield corporate bonds are showing marked strength. This despite an economic backdrop that would suggest investors should be wary of the asset class. After all, a worsening COVID-19 outlook threatens to extend and possibly expand lockdowns. Before the onset of the pandemic, the economy was expanding, and high-yield bonds were in a strong uptrend. But the sudden implosion of business activity threatened widespread bankruptcies, causing these bonds to plunge over 20% in one month’s time. Amazingly, they have since recovered and are pushing into new high ground on a total return basis.

Of course, we know the damage would have been much worse if not for massive intervention by the Federal Reserve. In April, the Fed announced that it would take the unprecedented step of buying high-yield bonds directly. That was a crucial development that put a floor under prices. The Fed has been gradually reducing its support of the market as investor demand has returned.

High-yield bonds are one of the most sensitive asset classes to changes in the direction of the economy. The primary concern of an investor is the creditworthiness of the issuer of a high-yield bond. If high-yield investors think the economy is about to sink into a recession, they would be inclined to sell out of fear that bankruptcies will increase. The fact that high-yield prices are strengthening in the face COVID-19, the uncertainty of a new administration, and potential Congressional gridlock around the next round of fiscal stimulus is an encouraging sign of light at the end of the tunnel.

In any event, Kensington’s Managed Income Strategy has navigated this challenging period rather nicely. We sidestepped most of the damage that occurred in the February-March period and waited for our indicators to signal the all-clear sign before resuming a “Risk-On” posture. Although the macroeconomic waters have been choppy, the metrics we rely on have kept us fully invested. We are not seeing anything that would alter that stance in the immediate future.

Best regards,

Bruce P. DeLaurentis

Kensington Asset Management, LLC.

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