Insights


Focus on Income through High Yield

17 February 2020

The market cannot decide whether it wants to be risk-on or risk-off, as equities hover not far from their highs and US Treasury yields are back down close to their lows. The market’s split personality owes a lot to the uncertainty surrounding the coronavirus, with the verdict still out on the degree to which it will affect growth.

Market participants also seem to be drawing some comfort from the fact that central banks remain in policy-easing mode in order to insulate their domestic economies from the potential impact of a China slowdown.

One way of limiting exposure to large swings in risk appetite is to focus on income. In the last Strategy Espresso we highlighted the potential benefits of the Dividend Aristocrats equity ETFs, but in the world of fixed income it is non-investment grade high yield bonds that provide one of the strongest income streams. There are several reasons to value this income stream in an uncertain world:

  • Coupon protection: A high coupon means that investors will be less dependent on movements in the underlying asset to generate returns. Figure 1 illustrates the degree to which coupons can supplement total return or, in the case of 2018, help to offset the effects of falling bond values.
  • A growth recovery would be supportive: High yield correlates far more closely to equities (73% on 10 years of monthly data) than to government bonds (14%), suggesting high yield sits squarely in the class of risk assets. Indeed, history indicates that spreads to government bonds have typically tightened as economic growth has improved. In addition, the high coupon typically means that the duration of bonds is relatively short compared to their investment grade equivalents. This makes high yield an interesting defensive play if there is a V-shaped economic recovery and fixed income yields start to rise.
  • Slowing growth not damaging, as long as no recession: In the event of weaker growth, bonds should be somewhat insulated in light of expectations that interest rates will remain low for an extended period, which will support all fixed income. The ECB should also continue its asset purchase programme, which, while focused on investment grade bonds, may have some spill-over support for non-investment grade bonds. The key risks come from recession and an accompanying rise in default risk. This would be damaging to high yield bonds but is not the expected scenario according to State Street Global Advisors Economics.

Bloomberg Barclays Liquidity Screened Euro High Yield Index


Source: State Street Global Advisors, Bloomberg Finance L.P, as of 31 December 2019. Past performance is not a guarantee of future results. Index returns reflect capital gains and losses, income, and the reinvestment of dividends.


Flows


European-Domiciled ETP Segment Flows (Top/Bottom 5, $mn)

European-Domiciled ETP Asset Category Flows ($mn)

Sources: Bloomberg Finance L.P., for the period 6-13 February 2020. This information should not be considered a recommendation to invest in a particular sector or to buy or sell any security shown. It is not known whether the sectors or securities shown will be profitable in the future. Flows are as of date indicated and shouldn't be relied thereafter.


Fund Details


Source: Bloomberg Finance L.P., as of 31 January 2020.


Annualised Performance (unhedged, expressed in base currency)


Source: State Street Global Advisors, as at 31 January 2020. Performance quoted represents past performance, which is no guarantee of future results. Investment return and principal value will fluctuate, so you may have a gain or loss when shares are sold. Current performance may be higher or lower than that quoted. The contained performance data do not take account of the commissions and costs incurred on the issue and redemption, or purchases and sale, of units. Visit spdrs.com for most recent month-end performance. The performance figures contained herein are provided on a net of fees basis. Index returns are unmanaged and do not reflect the deduction of any fees or expenses. Performance returns for periods of less than one year are not annualised. Some of the products are not available to investors in certain jurisdictions. Please contact your relationship manager in regards to availability.


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2015149.111.1.EMEA.INST  
Exp. Date: 30/04/2020