As part of Business Insider’s latest Most Important Charts In The World feature, Dave Lutz at JonesTrading highlighted the relationship between the S&P 500 and the iShares High Yield Corporate Bond exchange-traded fund (HYG), and the growing concern around junk bonds.
High-yield bonds, also known as “junk” bonds, are bonds that receive a ‘BB’ or lower rating from S&P or a ‘Ba’ or lower rating from Moody’s, are bonds issued by companies, municipalities, or governments that are deemed to contain substantial risk of default.
With the Federal Reserve keeping interest rates near zero and inflation running below 2%, bond yields have remained low while stocks have rallied. In the “search for yield,” investors have turned to these lower-rated bonds, which offer a higher yield than government or investment-grade corporate bonds, to get returns.
The S&P 500 and the HYG had been moving in lockstep over the last six months, but recently have diverged, with the HYG tumbling while the S&P pushed to record highs.
And this recent divergence, which in the last three months has seen the high-yield bond index fall 0.5% while the S&P 500 has rallied nearly 6%, has Lutz calling for every equity trader to keep these indices in mind.
Just today, the high-yield index fell 0.3% while the S&P 500 was roughly unchanged.
Lutz noted that recent client and investor surveys from Bloomberg and Bank of America Merrill Lynch indicate that 70% of those surveyed said the rally in high-yield bonds is in a bubble or close to one.
Is the junk bond bubble bursting? Or is this just an orderly correction? Importantly, are stocks next to tumble?
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