El-Erian: High Yield Drama Tells Us 3 Things

• The decline in the high-yield bond market has many investors concerned.
• So far this week, high-yield bonds have shown a bit more stability.
• Mohamed El-Erian has identified three lessons to be learned from the decline.

The Federal Reserve finally deemed the U.S. economy stable enough to raise interest rates this week, while volatility in the high-yield bond market appears anything but stable. Selloffs in the high yield market are typically bad for equities, and for now, the high-yield market remains firmly in a downtrend.

Regression

While the selloff in the high-yield market is certainly not good for investors, Goldman Sachs analyst John Marshall pointed out that the decline could simply be a regression following a long period of high-yield outperformance. According to Marshall, the 0.8 percent widening in the CDX HY 5Y in recent weeks is more than explained by the 25 percent decline in their corresponding equities in the past eight months.

Related Link: Forget The Fed, Will A Credit Crash Kill The Stock Market?

El-Erian Weighs In

According to Mohamed El-Erian, the volatility in the high-yield bond market should serve as a reminder to investors of how the market tide can turn overnight. In an email to Benzinga, El-Erian had this to say:

“Drama in the high-yield market is notable in reminding us of three things that are of broader relevance:

• 1. The extent to which liquidity-dependent markets can overshoot both on the way up and the way down.
• 2. The fragility of market liquidity given limited willingness on the part of broker-dealers to provide their balance sheets in a countercyclical manner.
• 3. The extent to which some investors are subject to a liquidity illusion, if not delusion.”

Signs Of Stability?

After another down day on Monday, the SPDR Barclays Capital High Yield Bnd ETF JNK bounced back 1.1 percent on Tuesday and another 0.8 percent on Wednesday. Despite the rebound, the fund remains down 4.0 percent in the last month and 11.8 percent in the last six months.

Disclosure: The author holds no position in the stocks mentioned.