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Investment-Grade Corporate Bonds: Yields Surge in June

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Investment-grade bonds

Investment-grade corporate bonds are the debt instruments that are rated BBB- and above by rating major Standard & Poor’s. Other rating agencies have their own scale of rating a corporate bond as “investment-grade.” Treasuries are also considered investment-grade bonds.

If you want to invest in investment-grade corporate bonds, ETFs like the iShares iBoxx $ Investment Grade Corporate Bond Fund (LQD) help you do that. LQD invests in investment-grade corporate bonds of companies like Goldman Sachs (GS), General Electric (GE), and Walmart (WMT). Meanwhile, ETFs like the iShares 7-10 Year Treasury Bond ETF (IEF) invest exclusively in Treasuries.

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Yield movement in 2015

Yields on investment-grade bonds have been down for the first five months of 2015—compared to the levels in 2014. The fall was primarily due to global investors’ attraction to these US bonds. They were providing higher yield than other developed nations’ instruments that had a similar rating.

According to the BofA Merrill Lynch US Corporate Master Effective Yield, yields on investment-grade corporate bonds fell to a low of 2.84% by mid-April. These low levels led US corporates and financials, apart from Yankee issuers, to crowd the primary market.

Since the end of April, yields showed a rising trend, although their level still remained lower than in 2014. However, June broke the low-level trend in yields. They rose to as high as 3.32% during the week. This was the highest level in 2015 YTD (year-to-date). It was also the highest level since January 8, 2014. As we highlighted in Part 1 of this series, strong job additions were mainly responsible for driving yields higher.

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Spreads in 2015

The BofA Merrill Lynch OAS (option-adjusted spread) measures the average difference in yields between investment-grade bonds and Treasuries. Securities selected for calculating this spread are the ones that are rated BBB- or higher on Standard & Poor’s rating scale.

If spreads are rising or widening, it’s assumed that credit conditions are getting worse. Spreads also widen when growth is slow and economic conditions are getting worse. In contrast, falling or tightening spreads coincide with faster growth and generally better economic conditions.

In 2014, spreads by this measure ranged between 1.06% and 1.51%. Until June 5, 2015, spreads have ranged between 1.29% and 1.53%. Spreads have fallen as the year progressed—except in May and June. The OAS averaged 1.50% in January 2015. The average fell to 1.43% in February, 1.35% in March, and 1.33% in April. However, spreads averaged 1.34% in May 2015. So far, they have averaged 1.38% in June. Also, spreads are down six bps (basis points) from the level at the end of December 2014.

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