Corporate bond yields are off highs, but are still attractive. Here's what experts say to look for in 2024

Published Fri, Dec 29 202311:01 AM ESTUpdated Fri, Dec 29 20231:45 PM EST

While corporate bond yields have moved down off their highs, investors will still be able to snap up some juicy income next year, experts believe. Investors have been buying up bonds since the Federal Reserve signaled the end of rate hikes and three rate cuts ahead in 2024, sending prices higher. Bond yields move inversely to prices. In just the last month, the ICE BofA U.S. Corporate Index saw a total return of 5.19%. The index, which tracks the performance of U.S. investment-grade corporate debt, currently has an effective yield of 5.09%. USIG YTD mountain The iShares Broad USD Investment Grade Corporate Bond ETF tracks the ICE BofA U.S. Corporate Index. Investment-grade corporate bonds are part of Goldman Sachs Asset Management's fixed income strategy for next year. In fact, the bank called 2024 " the year of the bond ." Goldman would stick with high quality and start extending duration. "We are at this unique place where you can get real yield in high-quality assets," Lindsay Rosner, head of multisector fixed income investing at the money manager, told CNBC earlier this month. "Given [that] duration can be your friend again, things are lining up to put you in a really good position in fixed income." Still, corporate bond prices have gotten expensive, said Collin Martin, fixed income strategist at Charles Schwab. If growth slows modestly and a recession is avoided, which is what the market is largely expecting, then corporate bond prices will be supported, he said. However, corporate bonds' relative performance gets a bit tricky since credit spreads have gotten tight, he said. "If you are considering performance and 12-month returns and what the best plan of attack is, then Treasurys might actually be better," Martin noted. However, for income investors not just focusing on the next 12 months, investment-grade corporate bonds look very attractive, he said. "While the margin for error for a 12-month total return is a bit challenging, you can't ignore the 5-plus percent yields you can find with corporate bonds," he said. "It is one of our preferred areas of the bond market right now, especially in a tax-advantaged account." However, Martin doesn't think high-yield corporate bonds make sense right now. "They do have a greater risk of default," he said. "Defaults are currently on the rise, [so] it is an area we wouldn't be looking to overweight." Fitch Ratings is forecasting corporate high-yield default rates to rise to 5% to 5.5% in 2024, up from 3% to 3.5% in 2023. The higher-quality names have stronger balance sheets and more stable cash flows than those that aren't investment grade, Martin said. "They are much more insulated from an economic downturn should that occur than a high-yield issuer would be," he said. Kurt Halvorson, a portfolio manager at Western Asset, agreed. The firm has been moving up in quality in its portfolios. "While we do feel strongly about the fundamentals and how management teams are behaving, you still have to acknowledge that we are in uncharted territory in terms of how quickly the rate hikes have gone through and there's still some unknowns out there," he said. "We don't think it is the time to move down the quality spectrum." That said, he isn't worried about spreads being tight. "Companies' management teams are operating more efficiently than they were just five years ago," said Halvorson, who manages the Western Asset Short Duration Income ETF . "Fundamentals still continue to be very strong." WINC YTD mountain Western Asset Short Duration Inc ETF In fact, he thinks 2024 will provide a unique opportunity for corporate bond investors. "You can get high-quality corporate credit without taking a big duration risk and get these kinds of yields. We don't think that kind of opportunity will be out there forever," he said. Buying bonds vs. a fund Deciding between buying corporate bonds or investing in a fund comes down to each investor's preference. Bonds will mature on a certain date and you'll get your principal back as long as the issuer doesn't default. The best strategy is to build a bond ladder, which means staggering maturities, said Michael Kessler, senior portfolio manager at Albion Financial Group. He also doesn't think corporate bonds are particularly attractive on a total return performance thanks to their recent run higher. However, he thinks they are fine if you are investing strictly for income and can handle any price volatility throughout the year. "There is a fair amount of research that shows a ladder in the seven- to 10-year range carries the best trade-off between yield and price volatility," Kessler said. Schwab's Martin has been suggesting for most of the year that investors gradually extend duration. Also, be sure to hold the bonds to maturity, he added. "Rate cuts are much closer now than they were just a few months ago and that means reinvestment risk is becoming much more of an issue," he said. Funds can deliver diversification, which is an important part of bond investing. Investors will earn monthly income based on the fund's yield. However, funds don't mature, so you won't get back a face value like you do with an individual bond.