The Treasury market may be indifferent to current events in the economy, but the high-yield segment of debt securities, otherwise known as junk bonds, is focused like a laser beam these days.

The spread, or yield premium, in junk over the 10-year Treasury Note has been moving unambiguously higher since March, and the trend shows no sign of slowing. At the close of trading today, the KDP High Yield Daily Index carried a premium of 376 basis points over the 10-year Treasury Note. The last time the spread was that rich was November 2003.
Detailing the mechanics of spread ascension is every bit as remarkable as the fact that it’s risen to such heights in the first place. The recap of this peregrination in yield starts with the fact that the KDP High Yield Daily Index closed today at a 7.90% yield, the highest since June 2004, which coincidentally happens to be the month that the Federal Reserve began elevating the price of money for the first time in the 21st century.
The 10-year Treasury yield, by comparison, is a slothful gauge of money’s price. By the close of trading today, the benchmark bond’s yield settled virtually unchanged from yesterday at roughly 4.12%. In fact, while the KDP yield has been on the march upward since March, the 10-year Treasury has been generally moving in the opposite direction.
Deconstructing how we’ve arrived at this contrapuntal state of yield trends is one thing. Deciphering what it means is something else. Indeed, there are two distinct and ultimately hostile outlooks embedded in the menu of outlook served up by these two corners of fixed-income finance. On one side of the table is the Treasury market, where yields are more or less stable, if not falling. Then there’s contradictory and unappetizing message of rising yields from junk bonds.
Each is saying something materially different from the other, or so one can argue. The Treasury market, if we may be so bold as to assume prescience, tells us that the economy will err on the side of slower growth in coming quarters. Or so the 10-year’s stable/falling yield implies. Entwined in that forecast is the assumption that inflation won’t amount to much after all. Even today’s producer price index, which rose by a higher-than-expected 0.6% in April, is of little consequence, traders of Treasury appeared to be advising the rest of us today.
But the junk-bond market would have you believe that inflation is something to lose sleep over and economic growth may be materially better than anticipated. The complication, of course, is that high-yield bonds aren’t a full-fledged card-carrying member of the bond guild. Given their low credit-rating status, junk is viewed by Mr. Market as a love child born with the genetic makeup of both equity and debt. All of which suggests that the sell-off in junk bonds may be less about the future path of yield and more about the concerns of the underlying health of the corporate issuers. In fact, if one views the recent history of high-yield bonds by price, which moves inversely to yield, the junk chart looks more like the stock market, ergo, a market that’s been falling.
If worries about the future health of corporations is really what’s bugging the high-yield market, then the stable/falling yield in the 10-year Treasury doesn’t look all that out of step after all.
Neither then does the April 26 launch of the Access Flex Bear High-Yield Fund, which effectively offers short exposure to junk bonds. Unsurprisingly, this mutual fund with an inherently pessimistic posture has jumped 1.4% during its short life thus far.
It’s getting easier to find short exposure to the high-yield market, and thereby benefit from the rising yields. But deciding if the prediction will prove profitable as a long-term proposition is as tough as ever.