• 7 hours Italy’s Central Bank Embraces Sustainable Investing
  • 10 hours Trump Lifts Metals Tariffs To Cool Simmering Trade War
  • 13 hours Researchers Push To Limit Space Mining
  • 15 hours Could China Start Dumping U.S. Treasury Bonds?
  • 1 day Is Winter Coming For HBO?
  • 2 days Rise Of EVs Signals Peak Gasoline
  • 2 days Jeff Bezos Doubles Down On Space Colonization Ambitions
  • 3 days Gold Mining Stocks Stuck In Limbo
  • 3 days Executive Order Targets Huawei Over Espionage
  • 4 days Why Now May Be The Best Time Ever To Hold Gold
  • 4 days Fake News Sinks Shares In UK-Based Bank
  • 4 days De Beers To Build $468 Million Diamond Recovery Ship
  • 5 days Moody's: Turkey Faces Possible Credit Downgrade
  • 5 days Tesla's Solar Sales Are Slipping
  • 5 days Auto Industry To Get Temporary Tariff Relief
  • 5 days Welcome To The World’s Biggest Free Trade Area
  • 6 days Central Banks Are Stockpiling Gold At The Fastest Rate In Half A Decade
  • 6 days U.S.-China Impasse Threatens Rare Earth Trade
  • 6 days Wall Street Bears $1 Trillion Brunt Of Trade War
  • 6 days Mobile Sports Betting Isn’t Quite Minting Millionaires Just Yet
Strong U.S. Dollar Weighs On Blue Chip Earnings

Strong U.S. Dollar Weighs On Blue Chip Earnings

Earnings season is well underway,…

How Millennials Are Reshaping Real Estate

How Millennials Are Reshaping Real Estate

The real estate market is…

  1. Home
  2. Markets
  3. Other

Credit Markets Point To Rising Default Rates

Yield vs. Safety Of Principal

If an investor was given the opportunity to invest in two nearly identical bonds with one bond paying 2% per year and the other paying 6% per year, logic says most would choose to invest in the higher-yielding bond. In the real world, the bond paying 6% also comes with a higher risk of default. Therefore, when investors start to become more concerned about the economy and rising bond default rates, they tend to gravitate toward lower-yielding and safer bond ETFs, such as IEF, relative to higher yielding alternatives, such as JNK. The chart below shows the performance of JNK relative to IEF. The chart reflects a bias toward return of principal over yield.

High Yield Bonds versus Intermediate Treasuries

Some cracks have started to appear in the credit markets in 2016. From CNBC:

The default rate for high-yield bonds has risen to the highest level in six years, and a top bond analyst sees more bad news ahead for investors in so-called junk bonds....Defaults are only likely to increase over the rest of the year, predicts Diane Vazza, S&P's head of global fixed income research.

The concepts illustrated on the chart below are described in this video clip.

High Yield Bonds versus Long-term Treasuries


Potential Problems In The Oil Patch

Longer-term, if the economy flipped into a recession, the bulk of the defaults could come from the energy sector. From Bloomberg:

Wall Street's biggest banks need to set aside more cash to cover losses as low oil prices take their toll, according to Moody's Investors Service. Goldman Sachs Group Inc., Morgan Stanley, JPMorgan Chase & Co., Bank of America Corp. and Citigroup Inc. would need an additional $9 billion to cover souring oil and gas loans in the worst-case scenario, the ratings firm said Thursday in a report.


Increased Stress In China's Bond Market

When U.S. stocks sold off early in 2016, one of the market's principal concerns was the health of China's economy. Those concerns could resurface in the coming months. From Bloomberg:

Chinese companies canceled more than double the amount of bond offerings in March compared with a year earlier, as mounting defaults increased financing costs...The surge in scrapped offerings reflects investors' growing concern about default risks amid the worst slowdown in a quarter century.

As China looks to shift to a more internally driven consumer economy, it is possible some companies will not survive the transition. From Bloomberg:

China's top corporate bond underwriter said defaults will increase this year, casting a cloud over the market after record offerings in the first quarter helped refinance debt..."There will probably be many credit events caused by liquidity problems," said Huang Ling at the Beijing-based firm, which Bloomberg-compiled data show underwrote the most corporate bonds excluding notes regulated by the central bank in the first three months. "Some external events may trigger withdrawal of lending by financial institutions."

 

Back to homepage

Leave a comment

Leave a comment