The importance of diversification becomes apparent when considering past performance. In high-yield debt often the best investment one year is the worst in the next. Research shows no single market was consistently the best performer between 1999 and 2016.

Diversification coupled with active management allows for timely course corrections to a strategy as conditions change. For example, a portfolio focused on high-yield bonds in the US energy sector would have fared badly at a time of declining oil prices. An active strategy, unencumbered by the obligation to track certain assets, markets or industries, would reduce exposure to this sector and generate better yields by shifting focus to other high-yield bonds such as those issued by European banks, which have witnessed a gradual recovery since the financial crisis.

Despite the increasingly international nature of high-yield, any investment approach should consider US high-yield bonds given the recent performance of American corporations and the outlook for the world’s largest economy, which show the market standing on sound fundamentals.

Credit risk is expected to trend down with high-yield defaults projected to be below average in 2018, while profits at US companies, after bottoming out in the second quarter of 2016, are expected to continue climbing in 2018. Meanwhile, monetary policy under new Federal Reserve Chairman Jerome Powell should remain modestly accommodative despite the potential for more frequent rate hikes in the coming months.

At the end of the December 2017 quarter, the US high-yield market with its 6.2% yield presented a strong case for investors, especially during a period when US Treasuries and US investment-grade corporates yielded 2.4% and 3.3%, respectively, and trillions of dollars’ worth of debt globally yielded even less.

For all the opportunities, the high-yield market is also replete with risks, especially in a less stable policy environment. It is therefore prudent to consider bonds that offer a good balance between return and credit risk without forcing investors to forego the benefits of interest-rate diversification, versus those with narrow spreads and longer durations, which are typically more susceptible to rising interest rates. High-yield bond prices have seen recent declines as rate hikes and geopolitical uncertainty have triggered a preference for safe-haven investments. But they will remain supported as long as issuers limit fresh supply. Demand also remains strong; a recent survey found over three-quarters of global institutional investors were planning on increasing Asia high-yield exposure.¹