U.S. investment-grade bond spreads have reversed 87.3% of their coronavirus-induced widening as yields on speculative-grade and emerging-market corporate bonds continue to grind lower.
Having blown out to multiyear highs in March as financial markets reeled in the escalating pandemic, bond markets suggest that conditions are still easing toward pre-virus levels, even as tensions between the U.S. and China again ratchet up and a U.S. presidential election approaches.
After peaking at 401 basis points March 23, U.S. investment-grade bond spreads versus Treasurys, as measured by the BofA US Corporate Index Option-Adjusted Spread, were down to 140 bps July 28. While spreads are not as low as before the virus — the spread was 102 bps on Feb. 19, just before the pandemic upended U.S. markets — it marks a return to the historically low range of 100 to 150 bps that prevailed for much of the period since mid-2016.
High-yield and emerging-market corporate bonds continue to benefit from investors' hunt for yield.
"We have a slight preference for high yield over investment grade, as we believe carry — yield — will be the driver of total return during the second half of 2020," Solita Marcelli, head of CIO Americas at UBS Financial Services, wrote in a research note.
The support for the sub-investment-grade component of the credit market has seen the high-yield spread fall from 644 bps at the start of July to 527 bps as of July 28.
The spread has reversed 76.7% of the coronavirus inspired widening, having reached 1,087 bps on March 23.
The support for higher-risk assets was also evident in emerging markets.
The emerging-market corporate bond spread shed 8 bps between July 21 and July 28, to 370 bps. The spread has contracted by 33 bps in July and has now retraced 69% of the widening resulting from the pandemic.
"We believe that bond yields will stay low for longer, and note that the U.S. yield curve is flattening again," wrote Mislav Matejka, global equity strategist at JPMorgan.
In the leveraged loan market, the proportion of companies priced below 80% — a closely watched indicator suggesting a company is more likely to default — fell back below 8%.
The level was down to 7.8% on July 27 from 8.2% on July 20.
The Libor-OIS spread, a key risk indicator for the U.S. banking sector, rose slightly in the week but remains at much lower levels than at the peak of the crisis.
The spread, which measures the difference between the three-month dollar London interbank offered rate and the overnight indexed swap rate, was 18.1 bps as of July 29, up from 16.5 bps on July 15 but well down on the peak of 138.7 bps on March 27.