Current valuations for U.S. High Yield have become more attractive after recent market weakness.

  • The current spread for the ICE BofAML U.S. High Yield Index is 537 bps—up from a low of 325 bps at the end of September 2018 and 164 bps wider than at the start of the year.
  • In addition, the yield-to-worst has increased to 7.9%—up from a yield of 5.5% just over 12 months ago.

Credit fundamentals for U.S. High Yield are meaningfully stronger than they have been historically.

  • The ICE BofAML U.S. High Yield Index as of December 31, 2018 is comprised of 46% BBs (on a par value basis), up from 36% at the end of 2008.
  • Over the same period, CCCs have declined from 32% of the ICE BofAML U.S. High Yield Index to 12% today.

  • Aggressive issuance of LBOs and non-cash coupon bonds are much lower currently.
  • Most of the largest high yield issuers today are publicly traded companies.
  • Leverage for high yield companies has been stable and has recently declined.

The High Yield default rate as of November 2018 of 1.87% is lower than the 20-year average default rate of 3.16%.

  • We expect defaults to remain low because of the higher quality of new issuance and overall improved underlying credit fundamentals of the market.
  • Since 2013 (Period C in the chart below), BB-rated issuance has totaled 55% of high yield issuance. This is significantly higher than periods which have historically preceded elevated default rates. From 1997-2000 (Period A) and 2004-2008 (Period B), BB-rated bonds represented only 31% and 36%, respectively, of high yield new issuance.

Unleveraged stable income is difficult to obtain currently; we believe the U.S. high yield market represents an attractive low duration fixed income investment option. We expect returns to be positive in 2019 given strong underlying fundamentals and increased demand from long-term investors. The primary risks include a spike in interest rates, a U.S. economic slowdown, or heightened financial market volatility.