Expect More Drama in High-Yield Bonds

Junk bond investors have had a tough month. The spread between the Barclays U.S. Corporate High Yield Index and the 10-year U.S. Treasury note has widened to 338 basis points from a low of 221 basis points on June 23, 2014.

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There's no shortage of likely culprits:

--Change at the Fed, in the form of sooner-than-expected monetary tightening given the Federal Open Market Committee's acknowledgment last week that "the likelihood of inflation running persistently below its 2 percent objective has diminished somewhat."

--Systemic risk implied by the effective collapse, and subsequent government seizure, of Portugal's second largest bank, Banco Espitito Santo, S.A.

--A determination by the International Swaps and Derivatives Association that Argentina's decision not to make a bond payment last week triggered a credit event, implying the country's first technical default since 2001.

Last week, global macro portfolio manager Atul Lele, who oversees $4.5 billion for Deltec Bank & Trust Ltd., joined us on the set of Surveillance in New York to offer his perspective. Bottom line: As the Fed prepares to reduce its unprecedented liquidity, Lele is avoiding high-yield bonds.

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Technical strategist Chris Verrone of Strategas Research Partners e-mailed us this morning with his take. He notes that high-yield bonds have pulled back eight times over the past 5 years, with an average decline of 9.9 percent. Since the current decline amounts to 4.3 percent, he thinks there is more to come.

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Bank of America Corp. strategist Mary Ann Bartels agrees. She weighed in this morning on Surveillance, and while her primary focus is on equities rather than bonds, she sees a correction for all risk markets over the next several weeks. She is telling clients to buy, but also admits they may be wrong before they are right.

Back to high-yield bonds... Are we there yet? Probably not.

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