Triple-C rated U.S. corporate bonds are in some ways the riskiest securities an investor can buy. Even though they’re at least seven steps below investment grade, they’re not considered destined to default. However, they easily could in certain circumstances.
Because of that, the debt is often seen as a bet on a strong economy and favorable business conditions. It has returned 9 percent this year, according to Bloomberg Barclays data, compared with a 2.8 percent gain for the aggregate bond index. At first glance, that seems pretty good. But the broad high-yield index, which includes less risky borrowers, is up almost the same amount, at 8.6 percent. As recently as April 12, triple-C securities were trailing the overall junk-bond market.
Ordinarily, such a return on the broad index would equate to gains of close to 15 percent for triple-C debt, according to strategists at Citigroup Inc. “The inability of triple-C credits to materially outperform has puzzled many investors,” Michael Anderson and Philip Dobrinov wrote. This means one of two things: Either triple-C securities are cheap, or bond traders aren’t fully buying into the risk-on environment.
Wall Street doesn’t have a unanimous answer. Citigroup, in an April 23 report, laid out its argument for why triple-C bonds are notoriously tricky to group together and can’t be expected to stick to historical patterns of outperforming their higher-rated counterparts during rallies.
The beta of triple-C credits versus the high yield market is historically a volatile relationship. The average may be 1.7x, but the range of 12-month betas goes from 0.4 to 2.6x. This year’s results are unusual, but not unprecedented...
The unspectacular triple-C performance is intriguing because most investors expect the lowest-quality credits to materially outperform the overall high yield market during strong periods. It stands to reason that a rising tide lifts all boats, especially the ones that need the most water to float …
Unfortunately, the low-quality universe is not always a microcosm of the broader high yield market, and the universe is reflective of various currents. In particular, the current triple-C universe is beset with an abundance of secular challenges …
For investors looking for a beta “catch-up,” we advise caution. Idiosyncrasies are very likely to drive performance, and therefore we prefer single-Bs over Triple-Cs.
Idiosyncratic risks surely play a part here. Citigroup uses examples of flailing brick-and-mortar retailers and rural hospitals struggling with the trend toward urbanization, while a Barclays Plc research report noted that about a third of the triple-C index will mature over the next three years, heightening the possibility of nonpayment. But similar concerns haven’t been enough to stop investors from plowing into the debt over the past decade.
It’s happening again, with some investors and strategists coming around to the idea that maybe triple-C bonds are cheap after all. Bloomberg News’s Allison McNeely discovered that BlackRock Inc., the world’s largest money manager with more than $6 trillion in assets, is overweight the securities, and Amundi Pioneer is considering opportunities in the rating category. “We’ve been in the camp that there’s still a little bit more of upside to markets,” said Jeff Cucunato, lead portfolio manager of BlackRock’s multi-strategy credit platform.