April 20, 2018 | by Matthew Pasts, CMT, CEO, BTS Asset Management, Inc.

BTS Indicators Turned Positive on High Yield Bonds—Though 3% Level of 10-Year Treasuries Brings Risks

In the second week of April, our investment model for high yield bonds turned positive, indicating a medium-trend change from a negative to a clearly positive status. Among other indicators, moving averages and price supports point toward a positive medium-term trend.

Accordingly, we rotated back in to high yield bonds in our main tactical fixed income strategy. While we expect high yield bond prices to find support, from time to time our model issues a medium-term signal that is then reversed in the short term. As always, a change to a defensive posture—in keeping with our focus on preservation of capital—is a possibility.

At present, we are seeing some consolidation in the markets as investors grapple with positive economic news on the one hand and interest rate risk on the other.

Quarterly corporate earnings are coming in strong. GDP is expected to rebound in the second quarter of this year. High yield bonds typically do well when the economy expands. Very low default rates may help maintain the current, positive trend.

But interest rates remain a key risk factor. We are currently seeing fixed income pressured by the yield on the 10-year note touching 3%. A break over 3% may cause volatility in the stock market. Stocks discount risk, and higher yields are an indication that monetary conditions may tighten for a sustained period of time and eventually cause a recession. Conversely, we think that inflation is low and there is a distinct possibility that yields will revert back to the mean—which would help take downside pressure off of fixed income.

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It should not be assumed that investment decisions made in the future will be profitable or guard against losses, as no particular strategy can guarantee future results or entirely protect against loss of principal. There is no guarantee that the strategies discussed will succeed in all market conditions or are appropriate for every investor.