Investment-Grade Corporate Bonds: Higher Yields and Lack of Issuance Drive Demand

This Investment-Grade Corporate Bonds sector report is excerpted from the Second Quarter 2023 Fixed-Income Sector Views.

The Bloomberg U.S. Investment-Grade Corporate Index yield remains historically attractive: we haven’t seen yields consistently above 5 percent since the Global Financial Crisis. That said, demand for investment-grade corporate bonds is likely to wane if yields drop below the 5 percent level. While we continue to believe higher quality corporates outperform on a relative basis, tightening financial conditions, deteriorating credit fundamentals, and recession risk mean that this cohort is unlikely to replicate first quarter performance. Although financials underperformed in the wake of the banking crisis and look relatively attractive, near-term caution is the prudent path given continued uncertainty. First quarter earnings have eased some concerns over deposit outflows, however commercial real estate exposure, decreases in net interest margins and short selling in equity markets continue to add to investor angst. Consumer and technology issuers should see slower growth, lower revenues, and stubbornly high input costs that continue to shrink their margins as well.

Technicals remain a positive tailwind as the lack of primary issuance will likely continue throughout the second quarter. Supply was already below 2021 levels prior to SVB’s default but further declined into the end of the quarter, lower on both a gross (-15 percent) and net (-24 percent) basis vs. the first quarter of 2022. The dearth of long duration supply, down 24 percent, also helped buoy 30-year spreads despite the rally in U.S. Treasury yields. Fund flows provided further support for investment-grade spreads, with around $62 billion of inflows in the first quarter, according to J.P. Morgan data.

The spread relative to the risk-free rate for the Bloomberg U.S. Investment-Grade Corporate Index widened by just 7 basis points in the first quarter to 138 basis points, while the all-in yield dropped by 22 basis point to 5.17 percent. However, dispersion increased materially, with financials underperforming by 25 basis points while the industrial sector remained unchanged. We do not expect to see spread compression in regional banks relative to money center banks, as regional spreads remain around 100 basis points wider than pre-SVB levels, while money center banks have held steady and industrials have tightened on the year. Year to date, though, investment-grade spread levels look attractive compared to both investment-grade derivatives and equities.

—By Justin Takata

Important Notices and Disclosures

This material is distributed or presented for informational or educational purposes only and should not be considered a recommendation of any particular security, strategy or investment product, or as investing advice of any kind. This material is not provided in a fiduciary capacity, may not be relied upon for or in connection with the making of investment decisions, and does not constitute a solicitation of an offer to buy or sell securities. The content contained herein is not intended to be and should not be construed as legal or tax advice and/or a legal opinion. Always consult a financial, tax and/or legal professional regarding your specific situation.

This material contains opinions of the authors, but not necessarily those of Guggenheim Partners, LLC or its subsidiaries. The opinions contained herein are subject to change without notice. Forward-looking statements, estimates, and certain information contained herein are based upon proprietary and non-proprietary research and other sources. Information contained herein has been obtained from sources believed to be reliable but are not assured as to accuracy. Past performance is not indicative of future results. There is neither representation nor warranty as to the current accuracy of, nor liability for, decisions based on such information.

Investing involves risk, including the possible loss of principal. Investments in fixed-income instruments are subject to the possibility that interest rates could rise, causing their values to decline. High yield and unrated debt securities are at a greater risk of default than investment grade bonds and may be less liquid, which may increase volatility. Investors in asset-backed securities, including mortgage-backed securities and collateralized loan obligations (“CLOs”), generally receive payments that are part interest and part return of principal. These payments may vary based on the rate loans are repaid. Some asset-backed securities may have structures that make their reaction to interest rates and other factors difficult to predict, making their prices volatile and they are subject to liquidity and valuation risk. CLOs bear similar risks to investing in loans directly, such as credit, interest rate, counterparty, prepayment, liquidity, and valuation risks. Loans are often below investment grade, may be unrated, and typically offer a fixed or floating interest rate.

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