By Stefan Chappot
The clue is in the name, which is why high-yield bond investors are attracted to higher yields. Right now, these investors are leaning towards the US, where the average yield is 7.6% compared to 4.4% in Europe.
At first glance, it kind of looks like a no brainer, but it’s not that simple. Here are four reasons that should make investors question their appetite for the US:
- Government Bond Yields
US Treasury yields are materially higher than German Bunds. Hedging the currency exposure will largely eliminate this yield differential. - The energy sector
Spreads are higher in the energy sector, which accounts for a much larger share of the overall high-yield market in the US than in Europe. - Duration
US high yield has a higher duration compared to euro high yield. - Ratings
Euro high yield has more bonds with a BB-rating, but less B-rated (and CCC-rated) bonds relative to the US.
So, rather than looking at average yields, investors should be comparing non-energy spreads and duration by rating.
In Europe, B-rated bonds offer a spread that is only 12 basis points (bps) less than in the US. The duration however is only 2.8 in Europe vs. 3.7 in the US. In our view, this makes Europe an attractive proposition when it comes to B-rated bonds. In BB-rated bonds, the US appears the place to be, offering nearly 50bps more spread, while the difference in duration is less than in the single B-rated bonds (4.4 in the US vs. 3.8 in Europe).
In European B-rated bonds you get close to the same spread as the US, but with a lower duration. In the BB-rated space, in the US you get a better spread than in Europe without taking on a much higher duration. So it’s B in Europe and BB in the US.
Source: Vontobel Asset Management, Bank of America Merrill Lynch
Rating composition
Source: Vontobel Asset Management, Bank of America Merrill Lynch
Stefan Chappot is portfolio manager at Vontobel Asset Management.
