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Credit Insights

Rising Rates Reduce Returns

Payrolls and Other Economic Indicators Looking Better

Rising interest rates have pushed investment-grade returns into negative territory year to date. Last week, the yield on 5-year, 10-year, and 30-year Treasury bonds rose 25, 28, and 23 basis points, respectively to 1.74%, 2.40%, and 3.11%. As interest rates have risen to their highest yields thus far this year, the return of Morningstar Corporate Bond Index year-to-date total return has dropped to a loss of 0.48%. However, with its lower duration, and higher carry from much wider credit spreads, the return of the Bank of America Merrill Lynch High Yield Master II Index remains positive at 3.29%.

In the investment-grade space, the average spread of the Morningstar Corporate Bond Index held steady last week at +140 basis points and in the high yield space, the average spread widened 4 basis points to +456. Credit spreads were under pressure most of the week because of technical pressures as dealers looked to lighten up the amount of inventory that has built up on their books over the past few months. While the new issue market slowed down as the summer slowdown takes hold, activity was brisk in the secondary market. Dealers reportedly sold over $3.5 billion worth of bonds from their inventory over the course of the week, with over one third of the volume consisting of long-duration bonds. Once the average yield on 30-year corporate bonds rose back above 4.50%, demand increased for this long-duration paper from insurance companies and pension funds.