Corporate and high-yield bonds: how company debt behaves

A corporate bond is a loan from investors to a company. The company promises a fixed schedule of interest payments, called coupons, and the return of the face value on a set maturity date. Bonds from companies the rating agencies grade BBB− / Baa3 or better are investment grade. Bonds rated below that line are high yield, the market's polite name for what it also calls junk.

Corporate bonds sit between Treasuries and stocks. Like Treasuries, their payments are fixed, so their prices move against interest rates. Like stocks, their value depends on the company's health, so they lose money when the economy turns. How much of each risk a bond carries depends mostly on its rating. This guide explains the parts of a corporate bond, why investment grade and high yield behave so differently, and what almost twenty years of fund prices show, including a trap in how that data is usually charted.

Anatomy of a corporate bond

Every corporate bond is defined by a contract, the indenture, that sets out:

• Face value and coupon. For example, $1,000 face paying 6% a year, usually in two semiannual payments of $30.
• Maturity. The date the face value is repaid, from a year or two to 30 years or more.
• Seniority. Where the bond stands in line if the company fails. Secured bonds are backed by specific collateral. Senior unsecured bonds rank next. Subordinated bonds are paid only after senior lenders, so they recover less in a bankruptcy and pay more.
• Call features. Many corporate bonds, high-yield bonds especially, let the company repay early at a set price. Companies call bonds when they can refinance cheaper, which is exactly when you would rather keep the higher coupon.
• Covenants. Promises such as limits on extra borrowing or asset sales. High-yield bonds typically carry more of them, because lenders need more protection.

Corporate bonds trade over the counter through dealers rather than on an exchange. In the US, FINRA's TRACE system collects reported trades in corporate bonds and publishes prices, yields and volumes, which individual investors can view for free.

Where the yield comes from

The Credit ratings and credit spreads: how bond risk is priced guide explains spreads in detail. For this page, the key point is that a corporate bond carries two separate risks, and they don't move together:

1. Interest-rate risk, from the Treasury part of the yield. When Treasury yields rise, every fixed-rate bond's price falls, by an amount set by its duration.
2. Credit risk, from the spread. When investors fear defaults, spreads widen and prices fall, even if Treasury yields are falling at the same time.

Investment grade versus high yield

The two halves of the corporate market are almost different asset classes:

When a company is cut from BBB− to BB+, its bonds become fallen angels. Funds and insurers limited to investment grade may have to sell them, often all at once, which can push prices below what the change in credit alone would justify. Companies whose ratings rise into investment grade are called rising stars.

Real data: three funds since 2007

The chart tracks three exchange-traded funds, rebased to $100 in May 2007: IEF (Treasuries maturing in 7 to 10 years), LQD (investment-grade corporate bonds) and HYG (high-yield corporate bonds). Computed from monthly closing prices:

The table shows the two risks at work:

• In credit panics the funds split by rating. In late 2008, Treasuries rallied as investors fled to safety, investment-grade bonds fell, and high yield fell almost three times as far. HYG's largest price decline in the data, 37.3%, ran from May 2007 to November 2008. March 2020 repeated the pattern on a smaller scale.
• In the 2022 rate shock all three fell together. There was no credit panic; the 10-year Treasury yield rose from about 1.5% to above 4%. LQD, which holds many long maturities, fell the most. High-yield bonds tend to be shorter, and their high coupons pay back the investment faster, so HYG's price was less sensitive to rates. LQD's largest price decline, 28.4%, ran from November 2020 to October 2023, a rate story, not a credit one.

What the price-only chart does show honestly is path and drawdown: how far and how fast each kind of bond fell in each kind of crisis, and how long it took to recover.

Pitfalls and limitations

• Default losses are permanent. A Treasury fund that falls in a rate shock recovers as its bonds mature at par. A default turns a price drop into a realized loss.
• High yield fails when you need it. It tends to fall alongside stocks in recessions, so it diversifies a stock portfolio far less than Treasuries do. See Correlation between asset classes: how it works and why it shifts.
• Calls cap the upside. When yields fall, callable bonds are often repaid early, so their prices rise less than non-callable bonds of the same maturity.
• Liquidity thins in stress. Corporate bonds trade less often than Treasuries, and dealer spreads widen in panics, just when sellers are most numerous. Funds can trade away from the value of their holdings at those moments, as explained in What is an ETF? How exchange-traded funds work.
• Yield is a promise. A fund's quoted yield assumes every bond pays in full. In high yield, some won't.

Corporate bonds compared with their neighbors

More on each: Treasury bills, notes and bonds: the US government’s debt menu, Municipal bonds: GO vs revenue bonds and tax-free yield math and How dividends and interest are taxed: qualified, ordinary, muni.

How Finabase does it

Finabase does not list individual corporate bonds, credit ratings or bond-level yields. It covers corporate credit through funds and benchmarks. The HYG, LQD and IEF symbol pages chart each fund's price, and their Dividends & splits tab, for example HYG's, lists the monthly distribution amounts that a price chart leaves out. The Treasury yields table shows the Treasury curve that every corporate yield is built on. The comparison chart on this page is ours, rebuilt from the same Finabase chart data.

Frequently asked questions

What is the difference between investment-grade and high-yield bonds?

The rating. Investment-grade bonds are rated BBB− / Baa3 or higher and carry low default risk; high-yield bonds are rated BB+ / Ba1 or lower, pay more, and lose more in recessions.

Are high-yield bonds safer than stocks?

They rank ahead of stock in a bankruptcy and pay fixed coupons, so their swings are usually smaller. But they tend to fall at the same time as stocks: from August to November 2008 HYG's price fell 28.3% on monthly closes.

Why did corporate bond funds lose money in 2022 without defaults?

Because interest rates rose. When Treasury yields jumped, the prices of all existing fixed-rate bonds fell. LQD's price fell 20.4% in 2022 because its bonds have long maturities, even though credit spreads stayed fairly calm.

Why does HYG's price keep falling over time?

Mostly because the chart excludes its distributions. A bond fund pays out its interest rather than keeping it in the share price, and the price also absorbs any losses from defaults in the portfolio. Total return, which counts the payments, is the fair measure.

Summary

A corporate bond pays a Treasury yield plus a credit spread, so it carries both interest-rate risk and credit risk. Investment-grade bonds are dominated by rates and behave much like Treasuries; high-yield bonds are dominated by credit and behave partly like stocks. Fund prices since 2007 show both: in the late-2008 credit panic HYG's price fell 28.3% while IEF rose 5.6%, but in the 2022 rate shock LQD fell further than HYG because duration mattered more than credit. Read any bond fund price chart knowing that it omits the coupons that make up most of the return.