Confirming our risk-taking thesis is the fact that junk bonds' value continues to rise while investment-grade corporate bonds have been falling since the beginning of the year. According to Bloomberg Barclays Indexes, while USD investment-grade bonds fell by -3.22% year to date, USD junk bonds rose by 1.16%. The reason for this trend is not entirely speculative. Indeed junk is the only asset providing a yield high enough to allow investors to protect against rising interest rates as well as inflation. In the context of a diversified portfolio, junk bonds can prove to be essential instruments because they are able to contribute to exciting yields while limiting duration. It easily explains why junk bonds demand remains sustained while their spread continues to tighten. To put things into perspective, it helps to know that the average yield offered by investment-grade bonds in the US at the moment is 1.9%, while the 10-year Breakeven rate is around 2.17%. It means that if you buy into investment-grade bonds, you will lose all your return to inflation. It is necessary to take an average duration of around 15 years to find a yield above 2.5% within investment-grade corporate bonds. Instead, an investor can secure the same yield in the junk bond space by bearing an average duration of 4 years. The difference is immense, especially when interest rates are rising and getting exposure to long-duration would make one portfolio more sensitive to interest rates changes.
Therefore, it is explained why junk prices are supported while triple C-rated corporates in the US provide an average yield of 6.23%, the lowest in history. It doesn't change the fact that sooner or later, a repricing within this space is doomed to happen, especially when US Corporates' leverage is the highest level in almost 20 years. It means that not only junk is expensive, it is also the riskiest in two decades!
Yet, investors are not worried about it now, and the bifurcation between junk and high grade becomes more prominent every day.