The Decoupling of High Yield and Energy
By Heather Rupp, CFA, Director of Communications and Research Analyst for Peritus Asset Management, Sub-Advisor of the AdvisorShares Peritus High Yield ETF (NYSE Arca: HYLD)
Much of the story in the high yield market over the last almost three years now has been energy related. In the summer of 2014, we were seeing oil prices (WTI) surpass the $100 level. In the fall of 2014, oil prices started to falter continuing the downward slide all through 2015 until hitting a bottom of sub-$30 in early 2016.1
As of the summer of 2014, energy related securities were 18% of the high yield bond market index2, the largest industry concentration in the index by far. So as we saw oil prices slide, we saw the high yield bond market take a step back. Once we started seeing oil continue to trend below the $50 price in early 2015, we started seeing the daily returns in the high yield market very tied to the daily moves in oil prices.3
From early 2016 to early 2017 we especially saw that correlation between oil prices to high yield returns, as oil rebounded from the $26 WTI price low in February 2016 to the current level around $50, all the while the high yield market posted strong double-digit returns.
Over the last couple months we have seen returned volatility to oil prices; though while prices are moving up and down, often more than 1% in a single day, it has been within a tight range of about $45 to $50. But, of note, over this recent period, we have seen a decoupling of the high yield market returns and oil prices.4
We have seen a steady move upward in high yield bonds, even on the days when we are seeing a fall in oil prices. Factors other than oil prices are driving the high yield market, and to us that makes sense. Many of the weaker energy related companies have already been weeded out and forced to restructure, with energy-related defaults at 12.4%, or 17.2% including distressed exchanges, during 2016, which accounted for 67% of total high yield market defaults and distressed exchanges for last year.5 Over the past few years, energy companies have been forced to become more efficient. While energy remains the largest industry concentration within the high yield market at 15%6 and we do still see some vulnerable issuers within the high yield indexes if oil prices stay below $50 for a prolonged period (as the higher cost/highly levered producers will be pressured), given the restructurings we have already seen over the last two years these problem credits are not nearly as widespread as they were going into 2015 and 2016. Furthermore, we don’t see much in the near to medium term to move oil prices significantly above or below this range—globally we are seeing some demand growth, but we are also seeing some supply come back on, especially here in the US shale regions, as prices hover around $50
Thus as we look at the high yield landscape today, and the energy sector within it, we believe the “energy-contagion” may well to continue to have less and less of an impact, as investors focus more on the interest rate and economic environment and yield the high yield market has to offer investors.
1 “Global Population Estimates by Age, 1950-2050.” Pew Research Center, Washington, D.C. (January 30, 201 1 West Texas Intermediate prices from 7/1/14 to 5/31/17, sourced from Bloomberg.
2 Acciavatti, Peter, Tony Linares, Nelson Jantzen, CFA, Rahul Sharma, and Chuanxin Li. “Credit Strategy Weekly Update,” J.P. Morgan North American High Yield Research, June 27, 2014, p. 51 https://markets.jpmorgan.com/?#research.na.high_yield.
3 West Texas Intermediate prices price changes (%) and Bank of America Merrill Lynch High Yield Index daily total return from 6/30/15 to 3/31/17, data sourced from Bloomberg. The Bank of America Merrill Lynch US High Yield Index monitors the performance of below investment grade U.S. dollar-denominated corporate bonds publicly issued in the U.S. domestic market.
4 West Texas Intermediate prices price changes (%) and Bank of America Merrill Lynch High Yield Index daily total return from 4/1/17 to 5/31/17, data sourced from Bloomberg. The Bank of America Merrill Lynch US High Yield Index monitors the performance of below investment grade U.S. dollar-denominated corporate bonds publicly issued in the U.S. domestic market.
5 Acciavatti, Peter, Tony Linares, Nelson Jantzen, CFA, Rahul Sharma, and Chuanxin Li. “Default Monitor,” J.P. Morgan North American High Yield Research, January 3, 2017, p. 4-5, https://markets.jpmorgan.com/?#research.na.high_yield.
6 Acciavatti, Peter, Tony Linares, Nelson Jantzen, CFA, Rahul Sharma, and Chuanxin Li. “Credit Strategy Weekly Update,” J.P. Morgan North American High Yield Research, June 27, 2014, p. 48, https://markets.jpmorgan.com/?#research.na.high_yield.
Although information and analysis contained herein has been obtained from sources Peritus I Asset Management, LLC believes to be reliable, its accuracy and completeness cannot be guaranteed. This report is for informational purposes only. Any recommendation made in this report may not be suitable for all investors. As with all investments, investing in high yield corporate bonds and loans and other fixed income, equity, and fund securities involves various risks and uncertainties, as well as the potential for loss. High yield bonds are lower rated bonds and involve a greater degree of risk versus investment grade bonds in return for the higher yield potential. As such, securities rated below investment grade generally entail greater credit, market, issuer, and liquidity risk than investment grade securities. Interest rate risk may also occur when interest rates rise. Past performance is not an indication or guarantee of future results. The index returns and other statistics are provided for purposes of comparison and information, however an investment cannot be made in an index.