April volatility does not derail HY recovery

Even with its recent volatility, the high-yield sector continues to recover from the outflow-plagued years of 2022 and 2023, as investors expect demand and oversubscriptions for the limited high-yield paper that comes to market.

The niche corner of the muni market already priced in February what’s likely the year’s largest deal, $2.5 billion of private activity bonds for Brightline West high-speed rail, a financing that attracted strong demand by offering nearly double-digit yields that one investor dubbed “too attractive to ignore.”

The mercurial nature of demand was demonstrated the following month when another large transaction, $1.2 billion of revenue bonds for American Tire Works Project, had to be postponed as investors shied away from what they saw as a risky structure. The deal remains in limbo.

“The broader themes from the demand perspective are that it’s choppy and people are not necessarily jumping into high-yield munis with both feet,” said John Miller, chief investment officer and head of the municipal credit team at First Eagle Investments.

“However, they are, in general, putting money to work, just more gradually,” Miller said. “Maybe the flow environment is not quite as high as the new issuance environment,” he added. “That’s not necessarily a bad thing from an investor standpoint — you can be picky.”

High-yield bonds, counted as below investment grade and nonrated, make up roughly 10% of the $4 trillion muni market, according to Macquarie.

For the first five months of 2025, investment-grade paper accounted for the bulk of issuance, at 93.2%. High-yield issuance only made up a sliver of total supply at 6.8%, according to data from Bloomberg.

But investment-grade and high-yield paper are growing at nearly the same pace year-over-year.

Short- and long-term investment-grade issuance for the first five months of 2025 is at $218.2 billion, up 15.5% from the same time period in 2024, while high-yield paper is at $13.7 billion, up 14.8%, the data show.

Last year, high-yield municipal bonds were the best-performing segment of the tax-exempt market in 2024, Eaton Vance noted in January.

That’s due to a strong technical picture. Last year, 38% of total net inflows into municipal mutual funds and ETFs went to high-yield municipal portfolios, while high-yield supply made up only around 6% of the market, according to Eaton Vance.

That same dynamic appears to be playing out on a heightened level so far this year. Per LSEG Lipper, 70.3% of money flowed to high-yield funds through the week ending June 4 while 6.8% of the market’s supply came from high-yield issuers during the first five months of the year.

The strong demand was reflected in the market last week, where the few speculative-grade deals saw strong reception, according to Birch Creek Capital. A $400 million B1-rated aluminum producer saw double-digit subscriptions for its seven-year paper and was repriced 12.5 basis points tighter after 33 investors participated, the firm reported in its weekly note. A $234 million limited offering for a BB-plus rated student housing project was 9 to 12 times oversubscribed and bumped 10-15bps, Birch Creek noted.

Even in April, as tariff-induced volatility roiled all markets and the high-yield muni market froze up, some orderliness remained, market participants said.

“Even during this volatility, we were still able to trim some high-yield positions that weren’t necessarily credit-driven credit concerns,” said Shannon Rinehart, a senior portfolio manager of municipal debt at Columbia Threadneedle Investments.

“They were relevant trades. And there were days where we could put them out, and it was like, ‘Oh no, that’s an ugly bid,’ but the bids were still there,” Rinehart said. “Now we’re seeing the market open up again to high-yield issuers.”

The longer-duration paper gives investors “some pretty juicy yields that are just due to being out the curve,” Rinehart added.

Investment-grade supply is hitting near-record levels in part as issuers respond to potential federal policy changes in Washington, D.C., like potential loss of the tax exemption. That’s driving up supply in high-yield market as well, in addition to other, unique issues that could contribute to more supply this year, said Mohammed Murad, head of municipal credit research at PTAM.

Murad said he expects to see more supply in sectors like senior living and land-secured deals.

“In addition to the overarching themes of tariffs and tax exemption elimination, there are factors a little more unique, like the need to renew assets in the senior living space to remain competitive and the expansion of senior living communities as the business model shifts to reducing skilled nursing operations,” Murad said in an email. “The need for housing in growing population centers like Texas and Colorado where master planned communities continue to be developed through the issuance of land secured deals.” 

Some potential high-yield supply may be diverted into the growing private credit market.

“The asset class over the last couple of years has shrunk,” said Josh Rank, a high-yield portfolio manager at Principal Asset Management. “You’re seeing triple-C issuance or subordinate issues that came to our market going back 15 years ago, which transitioned to the bank loan market, and then more recently, has transitioned into private credit and middle market lending.”

Tamara Lowin, senior municipal credit analyst at VanEck, said she expects demand to remain strong as credit fundamentals appear resilient.

“We’ve had a robust economy for so long now, and we’ve seen such low default rates across nonrated and general high-yield paper,” Lowin said. “I don’t expect that defaults are going to increase significantly if there is an economic slowdown, and that gives people more confidence, particularly if they’re investing in funds or they have some diversification across multiple high-yield projects that 99% of the time their investments are going to work out.”