Corporate bond yields are reaching levels they haven’t seen in years, and that may have investors taking another look at the asset class. The corporate bond market has taken a beating so far this year. The Bloomberg Corporate Index, which measures the investment grade corporate bond market, has lost 19.97% year to date, as of Tuesday’s close, while the S & P 500 is down 19.03%. The move is largely due to rising interest rates, rather than distressed conditions at the issuer level, said Rajeev Sharma, managing director of fixed income at Key Private Bank. “Issuers in the corporate bond market are very well capitalized,” he said. Many believe that’s created an opportunity to move into investment-grade corporate bonds. “This is the first time where there has been a sustained buying opportunity of this magnitude in about 15 years, at least,” said Michael Kessler, senior portfolio manager at Albion Financial. The firm, ranked No. 3 on CNBC’s Financial Advisor 100 list, has $1.4 billion in assets under management. About $100 million of that is in investment-grade corporate bonds. In fact, corporate bonds have had a “double whammy” of underlying Treasury yields going through the roof and credit spreads widening at the same time, he added. The average credit spread has historically been around 100 basis points, but these days it is around 150 basis points, Kessler said. “The good news is that in today’s market environment, with rates at 15 year highs and Investment Grade credit spreads 50 basis points above the long-term average, you don’t have to take much risk in order to earn a healthy real yield, provided that consensus inflation expectations (sell side, Fed, market-implied, and Albion house view alike) are more or less correct,” he said. Investors can buy corporate bonds in $1,000 increments or through a diversified exchange traded fund. What to look for With the Federal Reserve still raising interest rates and concern growing about a possible recession, the quality of the corporate bond matters, experts said. For a bond to be considered investment grade, it should be rated Baa or above by Moody’s or BBB and above by S & P and Fitch. “For a lot of people, the fixed income side of the portfolio is about preservation, stability, being a shock absorber of sorts,” said Lyn Williams, investment advisor at Salem Investment Counselors, also on CNBC’s FA 100 list. “When you’re in a rising rate environment, like we’re in right now, that quality becomes important because with rising rates, you have to take into consideration the worry of default risk.” When it comes to duration, or bonds’ average maturity, the shorter end has less interest-rate risk, while the farther out you go, the more risk an investor takes. Once you look at a company you think is a safe investment for a certain duration, you may decide that the little extra risk — compared to Treasurys — may be worth it for the greater return, Williams said. Being diversified is also important. “You don’t want to necessarily be ever concentrated in a particular company,” Williams said. “You may not necessarily want to be over allocated or concentrated in an industry. So in corporate bonds, I like to try to own good quality companies in a number of different industries at different sizes.” Overall, the idea is to stay safe while still earning a decent yield. “We prefer to keep it pretty simple,” Kessler said. “Right now, you can get paid quite an attractive yield to invest in something that is going to see the other side of a recession, if one is in fact coming.” Investing in a fund One way to get exposure to the corporate bond market is through an ETF, such as the iShares iBoxx $ Investment Grade Corporate Bond ETF. Funds are very liquid, so it is easy to trade in and out of them, said Key Private Bank’s Sharma. The issue is volatility, he said. “In times of volatility, we have seen a lot of outflows,” he said. Corporate investment grade debt funds have seen $139.7 billion in outflows so far this year, according to Refinitiv Lipper. That is the largest net redemptions on record of any full year dating back to 1992, when the firm began tracking weekly flows. “When an ETF has outflows, they tend to sell their most liquid names so that could be an issue as we enter recession,” Sharma said. Where to look Albion’s diversified corporate bond portfolio is a seven-year ladder of investment grade bonds, which don’t necessarily change much with the ebbs and flows of the market. One industrial stalwart the firm likes is John Deere, whose two-year bond has a yield of 4.653% as of Tuesday’s close, according to TradeWeb. While it doesn’t necessarily trade at a yield premium, it is a really solid bond, Kessler said. There are also some senior unsecured bonds from companies in which Albion also owns the common stock, and therefore knows very well. One name is Hasbro, whose two-year bond is yielding 5.428% and five-year is yielding 5.951%, TradeWeb’s data show. Another issuer is Fiserv, whose two-year paper yields 5.418% while its five-year offers 5.636%. Other names in Albion’s portfolio include Equinix, Enbridge, and Toyota. For Sharma, the financial sector looks interesting. Bonds there have a tremendous amount of liquidity, are extremely well capitalized and have various maturities, he said. “You want to make sure you’re interested in corporate bonds that are very liquid so you can sell them if you need to,” he explained. “You want to look at very strong balance sheets, strong companies.” Utilities, on the other hand, may have strong balance sheets, but the bonds tend to be issued in 30 years, which adds a higher degree of interest rate risk, he added. For Palisade Capital Management, convertible bonds look attractive right now, especially since inflation is high and interest rates are moving up. Convertibles are a hybrid, fixed-income security that can also be converted into common stock. “That’s very important, particularly in times of inflation, because you have the opportunity to offset the negative impact of duration with the positive aspect that the stock can go up and the value of your bond can appreciate far, far more,” than an ordinary bond, said Dan Veru, chief investment officer of Palisade Capital Management. The firm has a convertible product called the Palisade Capital Management short duration convertible bond strategy. As of the third quarter, its top holdings were Herbalife Nutrition, New Mountain Finance, Western Digital and New Relic. There are still those who are not ready to add exposure to corporate bonds. First Foundation’s corporate bond exposure is still fairly low, said Calvin Jones, the firm’s managing director of fixed income. “In our mind, you’re not being compensated, in order to take on that extra risk for extending into corporate credit,” he said. “We’re kind of still expecting corporate spreads to widen out, being offered a greater advantage to take on that corporate credit risk versus Treasurys. And that’s kind of what we’re waiting on.”
