High Yield Bonds on Sale?

After cratering the prior week, the S&P500 began to rebound early last week, only to close the week with two days of big losses. This caused the index to close down for the week, but only slightly….down 0.34%. Volume was not high, but this may have had something to do with the holiday season which is just around the corner. Also, volatility fell a bit for the week. That said, the VIX index has been trending higher since late October.

The technical picture for the S&P continues to become more grim. Instead of retaining the early week bounce, the S&P gave it all back after the Federal Reserve announced its first rate hike in 8 years. This inability to hold onto a bounce suggests that some more selling lies directly ahead. Add to this the fact that the S&P closed the week well below its 50 and 200 day moving average and you have a lot of reasons for traders to become concerned about being fully long this market. Next week, if the selling resumes, you may see more bears coming out of the woods and start to argue that we could retest the lows of August and October.  If these don’t hold then, some experts will argue that the long overdue “bear market” may be imminent.

In economic news, the reports were particularly poor. the week started off with a “less bad” than expected Empire State manufacturing survey (it was still bad though), and things went downhill from there. The housing market missed estimates. Industrial production missed badly. PMI manufacturing also missed. The Philly Fed business survey disappointed. The PMI services index missed very badly, and the Kansas City Fed manufacturing survey cratered.

It’s been a while, but after the multi-year meltdown in commodities (which drove, for example, oil and copper down 75% and 55% respectively). While we pointed to these major asset categories more as signals of upcoming economic weakness, they will also become serious investment opportunities for the long-term, once their prices stabilize.

Another major asset category has also recently come onto our radar screen—high yield bonds. While this asset category is still falling in price, and because of this, it’s not yet ready to be bought, it’s been falling far more than the overal US equity indices which are not too far off from their all-time highs. Also, high yield bonds are being disproportionately affected by losses in the energy and commodities sectors. That said, this investment bucket is starting to approach prices last seen in early 2008. And once the full effects of the slowdown in the US economy are fully expressed in terms of corporate defaults and once the effects of the Fed’s hiking cycle fully sink in to the markets, we may find ourselves approaching high yield prices last seen in late 2008, when it offered a huge investment and income upside—at those prices, yields were in the mid-double digit area, and prices eventually rose by 40-50%.

Over the next couple of months, something similar may happen again in high yield. And this would be an exciting opportunity.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: