Oct 24, 2022 - Economy & Business

Here's one sign bond investors are prepping for a downturn

Data: ICE BofA U.S. High Yield Index; Chart: Axios Visuals
Data: ICE BofA U.S. High Yield Index; Chart: Axios Visuals

If you’re looking for a sign that investors are increasingly expecting an economic downturn — here it is.

Driving the news: In the high-yield bond market, where the riskiest companies borrow, investors are dumping lower credit quality bonds (those rated "CCC" and lower) faster than others.

The big picture: Investors get paid more to lend to riskier companies. In a strong economy, they’re more likely to take on that risk for the extra return.

  • But in downturns, companies with the weakest balance sheets are the most vulnerable to problems, so investors tend to cycle into higher quality bonds.
  • That’s been happening this year, and has accelerated in the past few months.

Go deeper: Over the course of 2022, yields on pretty much every type of bond have shot up as the Fed hiked rates.

  • But some have shot up more than others. The strongest high-yield companies (rated "BB") are up by 4.15 percentage points … while "CCC" bonds are up by an eye-watering 8.6 percentage points.
  • The gap between the two has widened out to over 9 percentage points, from just 4.6 points at the start of the year — as the chart above shows.

What to watch: That "decompression" will probably continue — as will the trend toward wider spreads across corporate credit, Matt Nest, global head of active fixed income at State Street Global Advisors, tells Axios.

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