As previously discussed in our fixed income research, we anticipate a fairly significant bear-steepening in the Treasury curve. Historically, in such an environment, it proved beneficial to move down in credit quality in the corporate bond market.
O ur U.S. Bond Strategy service has estimated the excess returns to various credit tiers of the corporate bond market under three scenarios for Treasury yields: no change, a bear steepening and a bull flattening.
The results are as follows:
- All corporate bonds, even the uppermost credit tiers, will outperform in the event the Treasury curve does not move (and spreads remain static);
- A bull-flattening could see investment grade corporates underperform across the board although high-yield bonds should continue to outperform;
- In the most likely bear-steepening case, all corporate bonds outperform and the advantage of moving down in quality is amplified.
In short, the balance of risks supports moving down in credit quality in the corporate bond market.