Eq: Large Cap
(New York)
One of the best indicators of stock market performance is actually in bonds. Because they trade based on fundamentals, high yield bonds tend to be strong leading indicators of stock performance. With markets swinging all over the place, now might be a good time to see what junk bonds are doing. The answer is that the sector looks to be in good shape, with spreads holding steady and no real sign of concern.
FINSUM: Junk is probably not going to really worry until we get very near, or into an inverted yield curve, as a recession would be rough on the high yield market.
(New York)
Something very ominous has been occurring in junk bond markets over the last week. The lowest tier of junk credits—which had been outperforming the market for much of this year—have been getting hammered. There has been a crash in CCC credits. According to Bank of America, since early October CCCs “have lost 3.25% in total and 3.50% in excess returns … effectively wiping out five months of performance”. That contrasts with the highest quality credits in the junk universe, which appreciated.
FINSUM: CCC had been doing quite well, so one can see this either as a normal return to earth, or early signs of trouble.
(New York)
One of the most underappreciated areas of the bond market is in mortgage-backed securities. Anyone familiar with the Financial Crisis will instantly know why. However, the asset class itself offers many attractive advantages compared to other bonds. There are three main points of appeal: higher yields, liquidity, and low correlation to risk assets. MBS ETFs average 2.79% yields (much higher than Treasuries), have much greater liquidity than corporate bonds, and have the lowest correlation to risk assets of any fixed income instrument.
FINSUM: If you can get of the trauma that the acronym caused, MBS can be a very good asset class for many different market environments.
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(New York)
One of the big questions in this market fall is why junk bonds aren’t tumbling in tandem with stocks. Generally speaking, high yield bonds trade in the same direction as small cap stocks as they are driven more by company fundamentals than other areas of the bond market. However, in the recent rout, this was not the case, as junk bonds have continued to perform well. When both markets fall in unison, it usually means there is big trouble brewing, but when they have become uncorrelated, it can mean there is a rally to come. For instance, in 2011, small caps fells strongly, but junk only a touch. In the following months, small caps surged 15%.
FINSUM: We think this is a positive sign for small caps, as high yield investors are not worried about company fundamentals.
(New York)
One of the biggest mistakes that investors might make in this rising rate era is to try to combat rising rates with better yielding bonds. While that strategy can work, especially in short-term bonds with high yields (such as junk bonds), a better strategy is to buy dividend growth stocks. Historically speaking, dividend growth shares have performed well in periods of rising rates, outperforming yield stocks and the broader market. BMO Capital Markets recently put out a piece on the topic, saying that “We prefer to focus on stocks that combine dividend growth and yield characteristics”. Some stocks that meet dividend growth criteria are BlackRock, Bank of America, Union Pacific, and Delta Airlines.
FINSUM: Dividend growth stocks tend to have good capital appreciation during periods of rising rates, which makes them seem like a good bet for this tightening cycle.
(New York)
Want to maintain your portfolio’s income, but also afraid of rising rates? Many are, as it is a difficult challenge keep income high but not experience losses. With that in mind, here are a handful of mutual funds which should help do just that. One area to look for diversified income right now is in multi-asset income funds. Some of the best are the American Funds Income Fund of America (AMECX), the Vanguard Wellesley Income (VWINX), the BlackRock Multi-Asset Income (BAICX), the JPMorgan Income Builder (JNBAX), and the Principal Global Diversified Income (PGBAX).
FINSUM: Many of these funds are quite old and have had great performance. Fees are all over the map, but one of the areas where they tend to succeed is in having good performance with lower volatility than the market as a whole.