Volatility Can Create Opportunities in Corporate Bonds
Why active bond strategies may benefit when markets get choppy, and the bond supply remains high.
Key Takeaways
Corporate bond issuance has been robust, creating more choices for fund managers as interest rates remain volatile.
When many issuers compete for investor dollars, new bonds may come with pricing incentives to attract buyers.
Active bond managers can evaluate and buy these new issues as they come to market, while index funds don’t have that flexibility.
When markets swing day to day, it can feel unsettling for investors. But volatility can also lead to better pricing among certain bonds.
Active bond managers, in particular, may often be able to purchase newly issued corporate bonds at attractive yields.
What’s Been Driving Bond Market Volatility?
Recently, bond yields have been fluctuating as investors consider interest-rate uncertainty, mixed economic signals and unrest in the Middle East. While these short-term fluctuations may be unsettling, we think they also present opportunities to find value in corporate bonds.
Why Corporate Bond Supply Matters
Even during turbulent markets, many companies still need to issue bonds — whether to refinance debt, finance capital projects, or support mergers and acquisitions (M&A). When more companies borrow money, there’s a bigger pool of new bonds for fund managers to consider.
What Are Bond Pricing Concessions?
When several companies issue bonds around the same time, they compete for buyers. To stand out, an issuer might offer a pricing concession — meaning the new bond could have a slightly higher yield (and a somewhat lower price) than similar bonds already trading.
This dynamic has played out recently, with several transactions offering new issue discounts of 10 to 20 basis points (bps).
Quick definition: In financial literature, basis points denote 1/100 of 1 percentage point (0.01%). So, 10 basis points equal 0.10%, and 20 basis points equal 0.20%.
Although these concessions may seem small at first, these price discounts immediately provide a potential return advantage over comparable-maturity U.S. Treasuries.
Our research has identified a variety of corporate bond issuers that have recently offered such concessions, including:
Keurig Dr Pepper, a beverage company
Abbott Laboratories, a medical device and health care company
Honeywell Aerospace, an aircraft engine and avionics system manufacturer
Eaton, a power management company
How Active Bond Managers Evaluate Opportunities
As active bond managers, we monitor new offerings in real time. We typically compare a new bond’s yield, maturity, credit risk and structure with those of Treasuries and other bonds already trading in the market.
If we believe the new issue offers solid performance potential for the risks involved, we may choose to buy it.
In contrast, because they track an index, passive bond funds can’t proactively add new bonds. These securities usually enter major indices later, after they’ve already been traded in the secondary market. This timing difference is one reason active managers may be able to take advantage of opportunities unavailable to passive fund managers.
What Are the Potential Benefits of Active vs. Passive Fixed-Income Investing?
More opportunities: Newly issued bonds can broaden the range of potential investments for active managers.
Value: Pricing concessions may offer a modest yield advantage compared to similar bonds.
Selectivity: Research remains important, and active managers utilize various tools to assess risk and determine if an issue’s pricing concessions offer good value.
Embracing Volatility for Strategic Bond Selection
Volatility can be stressful for investors, but it can also create compelling opportunities in the new-issue bond market. Active bond managers aim to evaluate new offerings quickly and select bonds with pricing and other characteristics that appear more appealing than those of existing bonds.
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References to specific securities are for illustrative purposes only and are not intended as recommendations to purchase or sell securities. Opinions and estimates offered constitute our judgment and, along with other portfolio data, are subject to change without notice.
The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.
Diversification does not assure a profit nor does it protect against loss of principal.
Investment return and principal value of security investments will fluctuate. The value at the time of redemption may be more or less than the original cost. Past performance is no guarantee of future results.
Generally, as interest rates rise, the value of the bonds held in the fund will decline. The opposite is true when interest rates decline.
Mutual Funds: American Century Investment Services, Inc., Distributor.
Exchange Traded Funds (ETFs): Foreside Fund Services, LLC – Distributor, not affiliated with American Century Investment Services, Inc.