Fixed Income Securities

Considerations for the High Yield Bond Market: The BB-rated High Yield (HY) bond market has shown strong performance, with favorable news recently related to growth and inflation.  Fundamentally, the companies represented in the HY Index have a favorable upgrade-to-downgrade ratio. BB-rated bonds constitute 50% of the HY market, distinguishing them from lower-rated B and CCC companies. BB HY bonds typically feature fixed rate, comparatively lower coupons, resulting in lower liability costs and more manageable debt service. In Contrast, the CCC-rated segment shows a concerning trend, with an upgrade-to-downgrade ratio below 0.5 (2x as many downgrades). The credit quality dispersion, shown in the chart below, reveals that BB vs. CCC-rated bonds trade at a spread margin of ~400 to ~1,200 bps, currently sitting inside of 750 bps.  While CCC credits can generate substantial returns during robust economic growth in a low default rate environment, and have rallied with the market in recent days, CCC deterioration is most pronounced during distress and recession. During the first half of 2020, the BB-CCC spread differential reached 1,200 bps, and in 2016, CCC spreads were even wider. It is noteworthy that Europe is straddling recession, and the BB-CCC European HY bond spreads have recently widened to 1,400 bps, surpassing its peak in 2020. So despite, the recent rally in lower-rated HY bonds, caution is warranted for the weakest segment of corporate credit. The HY bonds historical default rate: BB’s 0.4% default rate, B’s 1.4% default, and CCC’s a stunning 14.3% historical default rate! During a recession, default rates tend to increase significantly from historical measures. Composition of HY Index: 50% BB, 39% B, 11% CCC. 1 year ago, the HY Bond Index had 1.2% default rate. Today, the trailing 12M default for the HY bond market is 2.6%. By Q2 2024, I expect the default rate for high yield bonds exceed 4%. Michael Schlembach, Marathon Asset Management’s PM for High Yield, expects default rates to increase in 2024, with peak default rates potentially reaching ~1.0%, ~3.0%, and >20%+ for BB, B, and CCC’s, respectively. The key will be to invest in the debt of companies with solid fundamentals and financial strength to navigate the pending downturn. If you believe as I do that an economic slowdown (potential recession) is likely in 2024, it might be best to focus on higher quality credits with robust operating businesses within the HY market. Ford serves as a prime example in the BB sector, having recently been upgraded to Investment Grade by S&P, marking it as the largest 'rising star'. Ford represents 2% of the HY index with $41 billion of bonds, its upgrade has spurred demand for other quality BB-rated bonds to replace it. While recent inflows have tightened BB spreads, I advise against trading based solely on the technicals, as this post is intended purely for informational purposes. U.S. HY rated BB vs. CCC Differential:

I wrote a comprehensive, in-depth analysis five months ago explaining why I began investing some small funds in bonds. However, now the trend is becoming too evident to overlook 🚀🚀 A subtle yet significant shift is occurring in Indian retail investing towards corporate bonds. And with the entry of India’s biggest stockbroker into this game, the shift is bound to accelerate. Here’s why! .. See, for decades, bonds were off-limits for most of us. You needed a substantial ticket size, often Rs 1 lakh or more, and the process was complicated. It was a playground for institutions, not everyday investors. But, with big brokers like Groww entering the market democratisation of the asset class had begun - and I have data to show. You see, as per Moneycontrol, Groww has facilitated bond issuances from three companies so far. - In each case, around 12% of the total bonds were issued to investors who used Groww - If you think of it, most of these investors would’ve likely never have considered bonds if Groww - probably their default trading/investment app - hadn’t presented the option to them .. But, this becomes even more interesting. Why? Groww has achieved around 12% share without much fanfare, marketing, or promotions. To me, this indicates a significant potential for growth in retail investments in bonds, as access is made more democratic and visibility is increased through such platforms, whether it be Groww, Wint Wealth, Stable Money, or any other. It suggests that if you provide people with a straightforward way to invest, many will take advantage of it. .. Furthermore, it helps that SEBI itself aims to promote corporate bond investing. The most significant step to boost this asset class was SEBI reducing the minimum bond investment from a lakh to just Rs 10,000. This 2024 move by SEBI opened up the market, and platforms like Groww and others are now developing the distribution channels. The outcome is that millions of people now have access to assets offering 9-12% returns - not as high, but also more stable and less volatile. Therefore, there is a very promising outlook for the corporate bond markets. What do you think? .. PS: I share several biz/economy deepdives daily, with 35k+ people on WhatsApp. Do check out here: https://lnkd.in/gd_vvDFA Best, Jayant

Found a brilliant resource that I believe deserves more visibility among sustainability and finance professionals: the 𝗚𝗿𝗲𝗲𝗻 𝗕𝗼𝗻𝗱 𝗛𝗮𝗻𝗱𝗯𝗼𝗼𝗸 developed by the IFC under its GB-TAP initiative. 🌎📗 This isn’t just another guideline. It’s a practical, step-by-step manual for emerging market financial institutions looking to issue their first Green Bond—a critical tool to finance the just transition we talk so much about. What makes this especially timely is the handbook’s relevance in accelerating climate finance flows into developing economies—where climate impact is most deeply felt but capital is least accessible. 𝗔 𝗳𝗲𝘄 𝗸𝗲𝘆 𝘁𝗮𝗸𝗲𝗮𝘄𝗮𝘆𝘀 𝘁𝗵𝗮𝘁 𝗰𝗮𝘂𝗴𝗵𝘁 𝗺𝘆 𝗮𝘁𝘁𝗲𝗻𝘁𝗶𝗼𝗻: ▪️ Green Bonds are transformational—not just financial tools but mechanisms to reorient an institution’s business model and balance sheet towards sustainability. ▪️The Handbook outlines how to align with the ICMA Green Bond Principles, covering Use of Proceeds, Evaluation, Proceeds Management, and Reporting in detail. ▪️It stresses that the journey to a Green Bond starts with building internal capacity, cross-functional teams, and securing leadership buy-in. ▪️It smartly positions Green Bonds as both a strategic financing tool and a visibility boost for ESG-conscious investors. ▪️The emphasis on credible external reviews (SPOs) and transparent post-issuance impact reporting is a solid reminder: integrity matters more than ever. Whether you're a policymaker crafting taxonomies, a banker looking to green your portfolio, or a sustainability professional designing frameworks—this Handbook is a goldmine. It blends practicality with vision, making it useful not only for emerging markets, but for any institution committed to genuine decarbonisation and climate-resilient development. Kudos to IFC and its partners from Switzerland, Sweden, Luxembourg, and the Netherlands for making this resource freely available. 💡 #GreenFinance #planetaryhealth #planetaryboundaries #sustainability #ClimateAction #carbonfootprint #NetZero #ClimateEmergency #SDG #ESG #GHG #netzero #GreenBond #ClimateFinance #EmergingMarkets #IFC #Taxonomy #TransitionFinance #JustTransition #ClimateResilience

Government bonds underperformed equities, credit and commodities in this 3-year risk on market. Our analysis shows when equities sell off, Treasuries are also less diversifying compared to decades prior (chart). What’s happening? Long bond yields are made up of 2 components: ➡️ Policy path - in a world shaped by supply, central banks are more limited in their ability to come to the rescue of the economy without reigniting inflationary pressure. Hence Treasuries are less reliable when equities fall. ➡️ Term premium - it’s driven by bond volatility, inflation uncertainty, and of course fiscal dynamics. Think of it like any other type of risk premium such as equity risk premium it’s about perceived risk and additional required compensation above risk-free for holding it in portfolios. Large deficits record debt and heavy issuance mean that term premia can reprice higher, maybe especially during stress, pushing long yields up even as markets may price a lower policy path. Together, these forces weaken the traditional stock–bond hedge. I think of Treasuries now as quality income assets not the diversifiers they used to be.

While tariffs and trade have driven stock markets this year, in recent weeks we have seen a shift in investor focus – to the bond market. Bond yields globally have been inching higher as debt and deficit levels are poised to climb. In the U.S., this comes as Moody's downgrades the U.S. credit rating, a new tax bill is passed by the House, and recent Treasury auction results have been mixed. Overall, we know rising debt levels can weigh on economic growth, as higher interest payments may crowd out more productive investments, like R&D and infrastructure spending. However, keep in mind a couple of mitigating factors as we consider the impact of elevated debt levels: 1) Historically, periods of higher debt/GDP have not coincided with higher yields – and in many cases it has been the opposite. 2) The old "TINA" adage likely still applies to the U.S. Treasury market – "There is no alternative": The U.S. Treasury market is one of the deepest and most liquid and regulated financial markets globally and still offers yield to economies, institutions and households at relatively low-risk. Read more in our Weekly Wrap authored by Angelo Kourkafas, CFA.

Borrowers are issuing debt as if there were no tomorrow 💸   January just set a record in the debt world with a massive $721 billion splashed into the market.   This is the biggest debt deluge we've ever seen by this time of year.   Picture this: over 480 bond issuers, from governments to banks and businesses, all rushing in. 🏃   But why is this happening?   Governments are trying to address their deficits.   Banks need cash in advance of stricter regulatory requirements.   Businesses are looking to refinance.    An investors?   Well, they're trying to beat the clock before the Fed potentially lowers interest rates. ⏳   The bond market is like a blockbuster movie right now, and everyone wants a ticket.   This strong demand is also making a lot of CFOs happy.   For example, Procter & Gamble recently secured the lowest risk premium for a decade-long bond ever.   And it's not only them. Dive further into the bonds pool, and you'll find investment-grade and junk bond spreads at a cosy two-year low. 📉   That's a clear sign investors are hungry for debt.   So, what's the big picture here?   Investors want to lock in the current yields. And for borrowers, the mantra is clear: grab the opportunity while it lasts!   So tell me: are you buying debt at these levels?   PS. 🔔 Subscribe to my profile & ♻️ share with your network

Bond Valuation The issuer of a bond obtains a loan from the purchaser of the bond. The issuer agrees to pay regular coupons to the purchaser and repay the loan when the bond expires. The bond pricing equation (BPE) is used for two purposes. The first is to determine the coupon rate that will be attached to the bond at issuance. The coupon rate is that rate that results in a bond price of 100 for the prevailing bond yield. This coupon rate generates the fixed cash flows C1-C5 in the LH diagram below. If the bond is traded in a liquid market, then post-issuance there is no further need for the BPE because prices are freely available. If the bond is not liquid, however, the BPE is required to serve its second purpose, the calculation of the bond price using input yields. The valuation of the bond is calculated as the PV of its future CFs. The BPE generates PV1 by discounting the coupon C1 using the 1Y yield. PVs 2-5 are generated in the same way. PV5 includes the repayment of par. The sum of PVs 1-5 = the price of the bond, the green circle in the diagram. The DFs used in the BPE are derived from the bond’s yield. But how are the yields obtained? Two approaches are possible : 1) a term structure of yields for the bond 2) a single yield for the bond. For approach 1, the first step is to build a RF yc. Methods such as bootstrapping, Nelson-Siegel or Vasicek can generate a continuous curve of RF rates. Next, a credit spread (CS) reflecting the credit risk of the bond is added to each RF rate to determine the yields to use for discounting. The CS can be extracted from the prices of credit derivatives used to hedge the credit risk of bonds with similar credit characteristics to the bond being priced. CS types include asset swap spreads, CDS spreads, treasury spreads, z-spreads and OAS spreads. A term structure of CSs is also possible. When CSs cannot be obtained from market instruments, models such as structural models or reduced form models allow credit spreads to be simulated. Under approach 2, a single yield, referred to as the bond’s YTM or internal rate of return, is used to discount all CFs in the BPE. Bonds with similar credit risk characteristics as the illiquid bond can be used to obtain the proxy YTM that is input to the BPE. Over the life of the bond, the BPE will ensure that the bond’s price, the green wavy line in the diagram, will rise and fall in an opposing direction to its yield. As the bond matures, and time-to-maturity reduces, the impact of the changing YTM on the bond’s price gets smaller. Immediately before the bond matures, the time-to-maturity variable will be so small that changes in the bond’s yield have a negligible impact on its price. Assuming that there has been no credit event impacting the repayment of the par value of the bond, the bond’s price will move back to the 100 value that it was issued at.

While U.S. stocks look a bit steadier for now, diversifying to temper volatility remains a preferred strategy — here’s why. Last week’s powerful rebound in U.S. equity markets may be put to the test as more than one-third of all S&P 500 companies, including four of the so-called “Magnificent 7” technology giants report first-quarter earnings this week. It’s been a generally solid earnings season so far, although the percentage of companies reporting positive surprises has been below recent averages. The blended earnings growth rate (combining actual results of companies that have already reported and estimates for those who haven’t) currently looks strong at just north of 10%, but quarterly financial results are backward-looking. Forward guidance from company management has been less favorable amid economic and tariff concerns. In addition to this week’s corporate earnings calendar, we’ll get a deluge of data on the U.S. economy, including the initial estimate of first-quarter GDP growth, the latest readings on consumer confidence and the Federal Reserve’s preferred inflation index, and a swath of labor market metrics capped off by Friday’s release of the April jobs report. On the tariff front, the Trump administration has moderated its tone around the most extreme levies, which had been fanning fears of an all-out trade war between the U.S. and China. We continue to see downside risks to U.S. economic growth, with the potential for higher inflation and an increased probability of recession this year (although that’s not our base case scenario). Against this backdrop, we think investors would be well-served by establishing or adding to allocations to two areas of high-quality fixed income: preferred securities and securitized assets (specifically, asset-backed and commercial mortgage-backed securities). These asset classes offer attractive opportunities for yield and income.   For more on why we favor these diversifying sectors, check out our latest CIO Weekly Commentary, “Expressing a preference for preferreds”: https://lnkd.in/gJKURdAk Given the current economic environment, would you consider making preferred securities and securitized assets part of your portfolio’s asset allocation?

There's something counterintuitive about the impact of rising rates on bonds. The math behind the forecastability of bond returns is fascinating (…at least to a geek like me). Higher reinvestment rates offset interest rate shocks over time. If rates unexpectedly spike, the portfolio should go down immediately. However, we now expect to earn more yield than we did before the rate shock. If we ignore several less-important subtleties such as yield curve effects and the timing of the rate shock, this offset effect works no matter the size of the rate shock. It explains why historically, the initial yield-to-maturity has been a remarkably good predictor of forward return for bonds. The “sweet spot” of forecastability, or close enough to it, is when the investment horizon matches the portfolio's duration. Bond investors tend to worry about rising rates because of the short-term losses that occur when rate hikes aren’t already priced into the forward curve. However, contrary to conventional wisdom, this example illustrates how rising rates are good for bonds: higher rates mean higher reinvestment rates, and ultimately, higher expected returns. Adapted from Beyond Diversification, McGraw-Hill.

Contrary to our previous expectation held till last summer, that a bottoming out in the usage of the Fed’s reverse repo facility combined with a continuation of the Fed’s QT would induce a mildly contracting phase in US liquidity from April 2024 onwards, US liquidity kept expanding since August making new record highs. This expansion of US liquidity, which we proxy by the sum of the stock of US commercial bank deposits and the AUM of US money market funds (MMFs), has been driven by larger than expected issuance of US Tbills since the beginning of August, which in turn induced further decline in the usage of the Fed’s reverse repo facility by domestic counterparties. Cumulatively since May 2023, the US Treasury flooded the financial system with $2.2tr of Tbills inducing MMFs to reduce their reverse repos by a similar amount, thus creating both reserves and bank deposits. This massive injection of liquidity more than offset the $1.2tr liquidity contraction from the Fed’s QT, allowing the stock of deposits in the US banking system to expand rather than shrink over the same period. And this expansion in US bank deposits took place despite the $1.2tr US bank deposit shift to US MMFs since May 2023, helping the US banking system to avert a liquidity crisis post SVB. The rise in US liquidity is set to continue into 2025. Even if the Fed's QT does not end in March 2025 and continues through the end of 2025, we still believe that bank lending (which also creates money) bolstered by the potential policy mix of the new US administration, would be strong enough to offset next year’s QT.