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Source: (T) BofAML, Credit Suisse. (L) Bloomberg. (R) JP Morgan.

We see the current environment of declining long-term rates and low corporate defaults as especially conducive for high yield bonds. During Q1, high yield bonds and leveraged loans rebounded along with equities, causing spreads to compress. Simultaneously, falling core Treasury yields boosted duration-sensitive investment grade bonds and other core fixed income. The path of interest rates has also helped dictate flows in the sector.

Core fixed income received a boost as rates fell 83 bps from November 8 through quarter-end. However, with the Barclays Agg now yielding just 2.93%, core fixed income is becoming more and more reliant on price appreciation – as opposed to income – to drive returns. While rates could possibly decline further as global growth slows and central banks halt monetary tightening, core fixed income has been beaten into a corner by rates.

Rates have also driven a reversal in leveraged credit flows, as a flattening yield curve has altered investor preference. As short-term rates have plateaued and even fallen, LIBOR-based floating rate loans have seen significant outflows. Meanwhile, falling long-term rates have made fixed-rate high yield bonds comparatively more attractive. With loan and high yield default rates near multiyear lows, at 1.00% and 0.94% respectively, the backdrop is still supportive for loans and bonds. We will be watching corporate debt levels, as well as signs of a business downturn that could cause spreads to widen.

Read the analysis for each indicator:

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Policy uncertainty

Smooth sailing for high yield, headwinds for equities

Equities
Fixed income

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