Honey Badger market shows resilience to shocks
The Honey Badger has become a fitting meme for the US high yield bond market. Known for its toughness and resilience, the animal became an internet sensation a decade ago. Its motto—“honey badger don’t care”—mirrors how the market has handled recent economic shocks.
The high yield market has faced numerous shocks, including the oil bubble burst, Fed tightening, the global pandemic, and the Ukraine War. Each event caused bond spreads to widen. Yet, none evolved into the broad credit crises investors initially feared. The market typically recovered within a short period.
Shocks and Recovery
Consider the recession widely expected in 2022. It never arrived. Corporate earnings held up better than anticipated, and defaults remained contained. Events initially viewed as the start of a credit downturn consistently proved less severe than feared. This pattern has repeated across multiple shocks.
Part of the market’s strength comes from its changing structure. BB-rated bonds, which are higher quality, now make up about 60% of the index, up from 38% in 2007. The average bond duration has fallen, and secured issuance has increased. This has made the market more resilient than in the past.
Meanwhile, leveraged loans and private credit have absorbed many of the more speculative borrowers. This has reduced the risk profile of the high yield market. Some private credit funds have faced stress due to weaker holdings and technology sector concentration. However, the high yield market itself has been less affected.
Strong market conditions have also helped. New issue supply has been suppressed, while demand for yield remains robust. This imbalance has helped contain spreads even during volatility. Investors earn returns through yield and carry, not spread alone, and higher base rates support attractive all-in yields despite relatively tight spreads, especially in higher quality products.
Energy and the Pandemic
Energy and the Covid-19 pandemic were exceptions. Energy was the largest index component during its crisis, which skewed overall market behavior. When energy is removed, the index recovered even faster. The pandemic’s recovery was driven more by policy than market fundamentals.
Massive fiscal and monetary support helped prevent a worse default cycle. Ironically, those same measures contributed to the inflation concerns that led to the 2022 spread widening. This highlights the complex interplay between policy and market reactions.
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The market gets knocked down but consistently gets back up. It reassesses risks and moves forward. This resilience has earned the high yield market its “Honey Badger” reputation. While no market is invincible, the past dozen years show it is very difficult to keep down.
Future Shocks
Higher borrowing costs now pose a new test. If this persists, it could pressure earnings and cash flow for some issuers. Debt maturities and refinancing needs will create challenges for certain companies in the coming years.
External factors could also trigger volatility. Sustained high oil prices might fuel inflation and slow economic growth. Geopolitical events, such as threats involving major economies, could unsettle investor confidence. Each potential shock would require the market to reassess its risk tolerance.
Changes in the financing ecosystem suggest these spikes might be absorbed. Previously loan-only issuers are increasingly returning to the high yield market, a sign that funding in other segments may be becoming less abundant.
This evolution could create attractive buying opportunities during bouts of volatility. The technical imbalance between suppressed supply and robust demand remains a supportive factor for the market.
Private Credit Stress
Market participants once worried about the shrinking high yield market due to private credit and leveraged loans. With hindsight, this shift may have benefited high yield investors. However, private credit has faced its own recent stress.
Some US private credit funds have struggled with lower-quality portfolios. They have also been hurt by issuer concentration, especially in technology-related issuers. These asset classes are skewed toward technology, making them vulnerable during sell-offs.
