Finding income in high yield bonds, bank loans, and emerging markets

Despite the U.S. Federal Reserve starting its monetary easing cycle in September, yields could move higher if the central bank does not cut as deeply as markets expect. High yield bonds and bank loans remain the two fixed income sectors with the most potential to generate meaningful income in 2025, while emerging market bonds also present solid income opportunities.

Expect modestly wider credit spreads

We anticipate continued volatility in the wake of the U.S. presidential election, leading credit spreads¹ to widen from the unusually narrow levels experienced through most of 2024. As a result, all‑in yields in sectors with credit risk would remain attractive even if high‑quality government bond yields decrease as the Fed and other global central banks cut rates.

However, I do not foresee a global recession in the next 12 months, so the spread widening should be relatively modest as rate cuts and lower energy prices continue to support the consumer and economic growth. Credit spreads could tighten again in 2025 as the uncertainty clears and investors become confident in the economy’s health.

Bank loans and high yield bonds are best positioned for income

The non‑investment‑grade sectors—high yield bonds and bank loans—are best positioned to generate income in 2025, in our view. With their floating coupons, we expect loans to perform better than high yield bonds if the Fed easing cycle is shallower than expected and yields increase. Loans are higher in the capital structure than bonds, making them more stable (although they are also less liquid). The bank loan sector also has less exposure to volatile energy prices than non‑investment‑grade bonds.

“...high yield bonds and bank loans...are best positioned to generate income in 2025, in our view.”

High yield bonds should also produce attractive income, but thorough credit analysis and selection is even more critical. If short‑term interest rates decrease, creating steeper yield curves, non‑investment‑grade bonds could actually generate more income than floating rate loans.

Corporate bonds with the lowest credit ratings in the investment‑grade universe (BBB on the S&P Global Ratings scale) could also produce healthy incomes as a result of their high credit spreads relative to other investment‑grade issues.

Emerging market bonds to benefit from favorable growth

Casting a wider net, emerging market corporate and sovereign bonds should benefit from a favorable growth environment in developing countries, where many central banks are well into their rate‑cutting cycle. Emerging markets are well positioned to generate higher growth than developed European markets, for example. The credit quality of emerging market corporate bonds has steadily moved higher over the past several years.

Global growth could surprise on the upside. In this scenario, markets would likely price in rate hikes to battle inflation, resulting in a steeper yield curve as intermediate‑ and longer‑term yields move higher. The risk of an inflation resurgence is high enough to consider including a small allocation to inflation‑adjusted bonds such as Treasury inflation protected securities in a diversified portfolio.

Key takeaway
Non‑investment‑grade sectors and emerging market bonds offer attractive yield opportunities even if government bond yields decrease.

Divergent monetary policy is today’s global fixed income reality

As of September 30, 2024.
Country classifications in the chart are in line with IMF groupings as of reporting date.
Sources: IMF, CB Rates. Analysis by T. Rowe Price.
For illustrative purposes only.
These represent estimates of where the stated countries are in their monetary policy cycle. Actual future outcomes may differ materially.

Kenneth A. Orchard Head of International Fixed Income

Kenneth Orchard is head of International Fixed Income. He is portfolio manager for the Global Multi-Sector Bond and Diversified Income Bond Strategies and co-portfolio manager for the International Bond Strategy. Kenneth is a member of the Fixed Income Steering Committee, cochair of the fixed income Sector Strategy Advisory Group, and a member of the European and UK Asset Allocation Committees. He is a vice president of T. Rowe Price Group, Inc., and T. Rowe Price International Ltd.

Oct 2024 • From the Field

Special Topic: Can you trust recession forecasts?

By Sébastien Page

Nov 2024 • From the Field

Why it’s time to consider moving out of cash and into fixed income

By Kenneth A. Orchard

Isn't it time to explore?

Sign up for fixed income insights from T. Rowe Price

Adaptive Form Title
First name*
Last name*
Company*
Business email*
Privacy policy
Campaign ID
Product Interest
Submit

First name*

Last name*

Company*

Business email*

Privacy policy

By providing your contact information and ticking the box below, you agree to subscribe to receive information from T. Rowe Price about its products and strategies as listed above by email or post. For information about how T. Rowe Price processes your personal data, please see the T. Rowe Price privacy notice.

I agree

Campaign ID

Product Interest

¹Credit spreads measure the additional yield that investors demand for holding a bond with credit risk over a similar‑maturity, high‑quality government security.

T. Rowe Price cautions that economic estimates and forward‑looking statements are subject to numerous assumptions, risks, and uncertainties, which change over time. Actual outcomes could differ materially from those anticipated in estimates and forward‑looking statements, and future results could differ materially from any historical performance. The information presented herein is shown for illustrative, informational purposes only. Any historical data used as a basis for this analysis are based on information gathered by T. Rowe Price and from third‑party sources and have not been independently verified.

Forward‑looking statements speak only as of the date they are made, and T. Rowe Price assumes no duty to and does not undertake to update forward‑looking statements.

Where securities are mentioned, the specific securities identified and described are for informational purposes only and do not represent recommendations.

Additional Disclosures

For more information on Third Party Market Data please visit troweprice.com/marketdata.

Important Information

This material is being furnished for general informational and/or marketing purposes only. The material does not constitute or undertake to give advice of any nature, including fiduciary investment advice. Prospective investors are recommended to seek independent legal, financial and tax advice before making any investment decision. T. Rowe Price group of companies including T. Rowe Price Associates, Inc. and/or its affiliates receive revenue from T. Rowe Price investment products and services. Past performance is not a reliable indicator of future performance. The value of an investment and any income from it can go down as well as up. Investors may get back less than the amount invested.

The material does not constitute a distribution, an offer, an invitation, a personal or general recommendation or solicitation to sell or buy any securities in any jurisdiction or to conduct any particular investment activity. The material has not been reviewed by any regulatory authority in any jurisdiction.

Information and opinions presented have been obtained or derived from sources believed to be reliable and current; however, we cannot guarantee the sources’ accuracy or completeness. There is no guarantee that any forecasts made will come to pass. The views contained herein are as of the date written and are subject to change without notice; these views may differ from those of other T. Rowe Price group companies and/or associates. Under no circumstances should the material, in whole or in part, be copied or redistributed without consent from T. Rowe Price.

The material is not intended for use by persons in jurisdictions which prohibit or restrict the distribution of the material and in certain countries the material is provided upon specific request. It is not intended for distribution to retail investors in any jurisdiction.

Australia—Issued by T. Rowe Price Australia Limited (ABN: 13 620 668 895 and AFSL: 503741), Level 28, Governor Phillip Tower, 1 Farrer Place, Sydney NSW 2000, Australia. For Wholesale Clients only.

Canada—Issued in Canada by T. Rowe Price (Canada), Inc. T. Rowe Price (Canada), Inc.’s investment management services are only available to Accredited Investors as defined under National Instrument 45‑106. T. Rowe Price (Canada), Inc. enters into written delegation agreements with affiliates to provide investment management services.

EEA—Unless indicated otherwise this material is issued and approved by T. Rowe Price (Luxembourg) Management S.à r.l. 35 Boulevard du Prince Henri L‑1724 Luxembourg which is authorised and regulated by the Luxembourg Commission de Surveillance du Secteur Financier. For Professional Clients only.

New Zealand—Issued by T. Rowe Price Australia Limited (ABN: 13 620 668 895 and AFSL: 503741), Level 28, Governor Phillip Tower, 1 Farrer Place, Sydney NSW 2000, Australia. No Interests are offered to the public. Accordingly, the Interests may not, directly or indirectly, be offered, sold or delivered in New Zealand, nor may any offering document or advertisement in relation to any offer of the Interests be distributed in New Zealand, other than in circumstances where there is no contravention of the Financial Markets Conduct Act 2013.

Switzerland—Issued in Switzerland by T. Rowe Price (Switzerland) GmbH, Talstrasse 65, 6th Floor, 8001 Zurich, Switzerland. For Qualified Investors only.

UK—This material is issued and approved by T. Rowe Price International Ltd, Warwick Court, 5 Paternoster Square, London EC4M 7DX which is authorised and regulated by the UK Financial Conduct Authority. For Professional Clients only.

USA—Issued in the USA by T. Rowe Price Associates, Inc., 100 East Pratt Street, Baltimore, MD, 21202, which is regulated by the U.S. Securities and Exchange Commission. For Institutional Investors only.

202411‑4019625