Twice the Gain
Before 2011, the lowest spread between the earnings yield and junk bond payouts was set on Nov. 9, 2010, when it narrowed to 33 basis points, according to data compiled by Barclays and Bloomberg. The S&P 500 returned 12 percent in the next six months, while high-yield bonds gained 5.4 percent.
"Equities are mispriced relative to bonds," said Brian Barish, Denver-based president of Cambiar Investors LLC, which oversees about $8 billion. "Companies with access to credit are being heavily encouraged by relative price levels to issue debt, to buy other businesses, or to buy back stock. There's a very favorable relationship in terms of relative debt pricing versus implied equity valuations."
Announced takeovers in which U.S. companies were the target totaled $395.4 billion in 2011 through last week, up 23 percent from a year earlier, according to data compiled by Bloomberg. Executives announced $195 billion in stock buybacks during the first four months of 2011, 56 percent higher than a year earlier, according to data compiled by Westport, Connecticut- based Birinyi Associates Inc.
Earnings Yield
Before this month, earnings yield had never risen above rates on junk bonds. The spread by which payouts on speculative debt exceeded equity profits has averaged 5.79 percentage points since 1987, Bloomberg data show.
Companies have sold $165 billion in junk bonds this year, poised for the most since at least 1999, according to Bloomberg data. Default rates have fallen to 2.5 percent in 2011, from 8.5 percent a year ago, according to S&P.
Toby Nangle, who helps oversee $54 billion as director of asset allocation at Baring Asset Management in London, said his model portfolio for U.S. institutional clients holds equities and no high-yield corporate bonds.
"High yield has had an astonishingly good run of performance, and with hindsight we should have been in it," he said. "But we don't find them as compelling now. Junk bonds should have a liquidity premium over equities."