Is the Rally in Junk Over?

Pick up any financial newspaper over the past two weeks, and you’ll read about the selloff in junk bonds and what it might portend for the stock market.

Remember, though junk bonds are fixed income, their risk characteristics make them more similar to equities.  Junk bonds carry higher default risk and are thus far more sensitive to the health of the economy than investment-grade bonds.  In the world of risk on / risk off, junk bonds certainly qualify as risk assets.

So, the recent headlines caught my attention.  There’s just one little problem.  They’re not true.

Take a look at the SPDR Barclay’s High Yield ETF (NYSE:$JNK).  Yes, the ETF has spent most of February in correction.  But from peak to recent trough, the losses have barely amounted to 3%.

Plus, this isn’t the first time.  Over the past year, junk bonds have had five selloffs of comparable (or greater) magnitude.  And yet junk bonds have recovered every time.

Nothing lasts forever, and the junk bond rally will eventually fizzle.  But with junk bond yields still over 6% in an environment in which the 10-year Treasury only yields 2%, I have no reason to believe that the top is in.

And as for equities,  we’ve already seen something of a correction.  U.S. stocks have been flattish in February, and most European markets are down sharply from their highs for the year.  It’s hard to argue that the modest fall in junk bond prices suggests that a larger correction is imminent.

Bottom line: It’s still a “risk on” market, and I recommend staying aggressively invested.

Disclosures: Sizemore Capital has no positions in any security mentioned. This article first appeared on TraderPlanet.