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6 November 2020 / ASSET ALLOCATION VIEWPOINT

The Case for High Yield Bonds

Key Insights

  • Investment-grade bond yields are likely to remain exceptionally low for the foreseeable future, a challenge for investors seeking income.
  • We believe that high yield bonds may offer a compelling alternative, but rigorous security selection is essential given their additional credit risk.

Investment-grade bond yields are likely to remain exceptionally low for the foreseeable future, presenting a significant challenge to investors seeking current income from their bond portfolios.

Although high yield bonds offer considerably more yield, the credit risk associated with these bonds—given the economic headwinds many companies face today—is a valid source of concern for many investors. While we agree that caution is warranted, we believe that there are reasons to be optimistic about the outlook for high yield bonds.

First, liquidity could be supportive. It is typically difficult for high yield companies to issue new bonds amid an economic crisis, but this has not been the case in 2020 due to a combination of Fed support and increased investor appetite for higher yields. Even among industries most affected by social distancing and stay-at-home orders, such as energy and gaming, issuance has been strong.

Second, credit markets are signaling that the worst may potentially be behind us. The chart below shows that the distressed ratio,1 a useful indicator of the current level of credit stress, is below its long-term average. Further, the spike in ratings downgrades this year has resulted in a record number of “fallen angels”—bonds that have lost their investment-grade rating and are now part of the high yield market—which has increased overall credit quality within the sector.

In our view, a higher-than-normal exposure to the high yield market may benefit many investors, particularly when combined with thoughtful security selection from a high-quality active manager.

IMPORTANT INFORMATION

This material is being furnished for general informational and/or marketing purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice, nor is it intended to serve as the primary basis for an investment decision. Prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources’ accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date written and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request. It is not intended for distribution to retail investors in any jurisdiction.

USA—Issued in the USA by T. Rowe Price Associates, Inc., 100 East Pratt Street, Baltimore, MD, 21202, which is regulated by the U.S. Securities and Exchange Commission. For Institutional Investors only.

Morningstar Awards 2020©. Morningstar, Inc. All Rights Reserved. Awarded to T. Rowe Price for 2020 U.S. Morningstar Exemplary Stewardship and to Jerome Clark for 2020 U.S. Morningstar Outstanding Portfolio Manager, U.S.A.

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