By Kenneth A. Orchard

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

The non-investment-grade sectors of the bond market look the most attractive.

November 2024, On the Horizon -

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.

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

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

Expect modestly wider credit spreads

Bank loans and high yield bonds are best positioned for income

Emerging market bonds to benefit from favorable growth

Divergent monetary policy is today’s global fixed income reality

Investing during transition

Fixed Income Insights

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