Bonds with a contractually guaranteed coupon are a prudent way of generating income in 2021

Phil Milburn, Global Fixed Income Team for Liontrust

The anticipated economic recovery in 2021 will provide a strong tailwind for most companies’ revenue and profits. The myriad companies that issue high yield bonds to help finance their business are no exception; their outlooks have improved considerably after the fantastic news about vaccines. Forecasts for default rates within high yield were already falling before the vaccine news and now following it, we believe they are set to come down rapidly. And remember that defaults have tended to be concentrated in troubled sectors, such as leisure, retail and energy, as well as lower rated high yield bonds.

The highest quality high yield bonds attract a BB rating and are only one rung below investment grade on the credit ratings scale. The credit risk within these types of bonds is already low, and with good stock picking can be reduced further. Credit spreads, the extra yield the corporate bond has compared to government debt, have rallied but still offer great long-term value. At approximately 3% in both the US and Europe, there is a decent premium – about 1% more than the lows we have seen in the last 5 years.

We believe that BB rated bonds are currently the sweet spot within credit – the Liontrust High Yield Bond Fund has a 45% weighting to them. In this world of ultra-low interest rates, investing in bonds with a contractually guaranteed coupon from high quality names such Netflix, Allfunds and Charter Communications is a prudent way of generating income in 2021.

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