Key Points

  • Investment-grade corporate bonds: Consider focusing on average maturities of five to seven years. Credit rating downgrades are likely to continue, with the potential for some “triple B” bonds to be downgraded to junk.

  • High-yield corporate bonds: Focus on higher-rated issues, like those rated “BB/Ba” by Standard & Poor’s and Moody’s, respectively. Defaults are still likely for many of those rated “CCC/Caa” or below.

  • Preferred securities: They can still make sense for investors looking for higher income and yields, but volatility is likely to remain elevated. The risk of dividend suspension appears low for now.

  • Bank loans: Proceed with caution. We believe there is very little upside, but plenty of downside if the economic outlook deteriorates.

For the second half of 2020, we don’t expect a repeat of the first.

After plunging in February and March, the prices of corporate bond investments have rebounded sharply. Investment-grade corporate bonds have now delivered positive year-to-date total returns, while riskier investments like high-yield bonds, preferred securities, and bank loans are slowly clawing their way back toward zero. While total returns have been strong since the March lows, we don’t expect the strong pace to continue.

If the economic outlook holds steady or improves, corporate bond prices could move modestly higher, but the potential price appreciation likely will be limited. If the economic outlook deteriorates, however, prices could fall, but we believe that the decline would stop short of the mid-March lows due to support from the Federal Reserve. In this scenario, the lowest-rated parts of the markets would likely suffer the most.

After a steep plunge early in the year, prices have rebounded sharply


Source: Bloomberg. Total returns from 12/31/2019 through 6/18/2020. Indexes represented are the Bloomberg Barclays U.S. Corporate Bond Index, Bloomberg Barclays U.S. Corporate High-Yield Bond Index, ICE BofA Fixed Rate Preferred Securities Index, and the S&P/LSTA Leveraged Loan 100 Total Return Index. Total returns assume reinvestment of interest and capital gains. Indexes are unmanaged, do not incur fees or expenses, and cannot be invested in directly. Past performance is no indication of future results.

The broad view: near-term support, longer-term risks

Corporate bond prices began to tumble early in the year due to concerns about the economic impact of COVID-19. As the economy ground to a halt, the risk to corporate revenues and profits came front and center. With cash flows likely to plunge—making it more difficult for companies to make timely interest or principal payments—corporate bond prices plunged.

The main driver of the rebound was the swift and unprecedented actions from the Federal Reserve, in our view. On March 23rd, the Federal Reserve announced the launch of the Primary Market Corporate Credit Facility (PMCCF) and the Secondary Market Corporate Credit Facility (SMCCF), allowing it to buy up to $750 billion of corporate bonds and corporate bond exchange-traded funds (ETFs). The SMCCF officially began buying ETFs on May 12th and individual corporate bonds on June 16th.