For many years, comparison charts have been a great way for investors to measure the overall health of the markets. A index is something that tracks a specific facet of the market. The S&P 500 index for example is a index that tracks the overall market in a sense because it's tracking the 500 biggest companies that are public. As you can see from the chart below, the S&P 500 index has obviously been straight up with the way the overall markets have been preforming the last 8 years. A junk bond index tracks the overall movement of junk bonds. Junk bonds are companies that have below investment grade debt. This means they are riskier companies that are offering their debt to the public. Now Junk bonds have higher yields/ potential return to investors because they are higher risk. When higher risk their is potential for higher reward. For many years now, there have been ultra low interest rates favoring junk bonds, because with lower credit quality, it's crucial they are paying debt back at the lowest rates possible. Let's take a look at a interesting chart below.
Now take a look at the chart key, the green/red line represents the junk bond index and the blue line represents the S&P 500 index. As you can see, over the past year both have been in upward trends. This makes great sense because as the overall market (S&P) has been straight up, junk bonds have been up as well. The reason for this is because while markets are going up, investors are willing to take greater risk. When everything is going great investors are willing to risk more capital. In a sense Junk bonds and stocks will be positively correlated for this exact reason. We will explain why this chart is very significant as of recent. We will post the picture below so you can see it while reading.
Like we said, junk bonds and stocks will move in the same direction in a sense, because when stocks are up investors are willing to take additional risk and invest in things like junk bonds where there is higher risk for higher potential reward. As of recent though, we have seen a big dip in the junk bond index (JNK). The junk bond index dropped to lowest levels since about March. This is significant because it shows investors are becoming bearish within fixed income investments. This means investors may be signaling they are fearing taking additional risk in the market. Many people are saying "the stock market has to go into a correction eventually." This selloff in junk bonds could be the indicator that the overall markets want to begin a correction stage, hence sell off. It will be interesting to monitor because like we said, stocks tend to be positively correlated to the junk bond index. If JNK continues the selloff, could this be the beginning of a overall market correction?
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