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During the week ending 15 June, investors took $6.6 billion out of funds that buy high-yield “junk” bonds, raising the total withdrawal this year to $35 billion, data service EPFR reported.
The spread between treasury yields and those of junk bonds moved up two-thirds of a point last week to 5.17 points, the widest gap since March 2020 when the COVID virus tanked the economy and sent junk bonds crashing.
The larger the spread, the more investors worry that junk bonds are likely to become actual junk.
Funds that are focused on higher-grade bonds bid goodbye to $2.1 billion, the largest outflow since April 2021.
Investors re-evaluated their ownership of fixed-rate instruments as inflation continued to rise, The Wall Street Journal said.
Also, the growing prospect of an economic downturn or recession as interest rates rise is stoking investors’ fears that more corporations might be unable to repay their debts, the WSJ noted.
When interest rates rise, bond prices fall to compensate for the reduced real returns that investors will make.
The U.S. Federal Reserve’s suddenly aggressive interest rate policies also raised fears of a recession, the WSJ said.
“Central banks don’t have the antidote for this market,” John McClain, portfolio manager at Brandywine Investment Management, told the WSJ.
“Hiking rates will slow the economy but it won’t stop war in Ukraine and it won’t alleviate supply chains,” he said.
“Banks led us into the [2008] financial crisis,” he added. “Central banks will lead us into this one.”
TREND FORECAST: Bonds often do well in a recession, an environment in which stocks fare poorly. However, in Dragflation, our Top 2022 trend in which prices rise as the economy contracts, bonds are less likely to do well.
Bonds usually carry fixed interest rates. If inflation is rising at a faster rate than a bond’s yield, the bond is guaranteed to lose value.
The only bonds with yields now beating inflation are junk-rated. They offer high returns because the companies that have issued them are financially wobbly. In a recession or in Dragflation, junk bonds are among the first investments to sour.
For the foreseeable future, bonds will attract distinctly less capital than they have for the past two years when the Fed pinned interest rates at rock bottom.