The junk bond to BBB-rated bond spread and the spread between AAA to BBB bonds shows amazing complacency. It won't last.
Fallen Angels
BBB-rated bonds are just one notch above junk (also called high-yield).
Fallen angels are bonds that slip from BBB to junk.
The lead chart shows what happens to "fallen angels" during recessions. All the investment grade bond funds have to dump the fallen angels straight into illiquid markets with few takers.
Half of the corporate bond universe is BBB-rated.
Fallen Angels vs BBB Yield
I created the BBB to Junk spread chart by subtracting the BBB yield from the High Yield yield.
BBB vs AAA Yield
BBB to AAA Yield Spread
Investors’ Curious Comfort With Junk Bonds
The Wall Street Journal comments on Investors’ Curious Comfort With Junk Bonds
The above image is from the WSJ. It only went back to 2016 so I created the top four charts in Fred to better show what's really going on.
As Treasury yields rise, corporate bonds are getting whipped by the storm. But there’s still a danger investors aren’t getting paid enough for the risks they are taking.
A close look at U.S. bond markets reveals little evidence of a systemic flight from risk amid last week’s auctions. Yields haven’t yet risen much compared with recent years even as investors have withdrawn billions from corporate-bond funds.
All year, investment-grade bonds have performed worse than riskier debt. Meanwhile, the spread on junk bonds hasn’t yet increased enough to break out of the generally downward trend that has lasted almost three years.
However, given that the U.S. and global economies are very far into a long period of growth and more interest-rate rises are in the cards, investors should be more concerned that they aren’t getting paid enough for the risk of downgrades and, potentially, defaults when the slowdown comes.
The selloff in corporate debt has barely started.
That last line says it all.
Here are two more charts to wrap things up.
Junk Bond vs. S&P 500
What to Expect
When the junk bond market does blow, it is nearly guaranteed to take equities with it. That's the scary thing about the recent equity selloff.
The junk bond market selloff has barely started and so has the accompanying stock market decline.