Interest rate changes affect low-quality issues to a greater degree than high-quality issues.

Question

Quizplus · Accepted Answer

Different types or grades of bonds provide different yields. At certain phases of the business cycle, the yield spread changes. For example, in the early phases of a recession, confidence tends to be at low ebb, and as a consequence, investors attempt to shift out of lower-grade securities into stronger instruments. The impact on the yield spreads can be observed in the recessions of 1969-70, 1973-75, 1981-82, 1990-91, 2000-01, and 2009-10. In all cases, the yield spread between corporate Baa's and government securities went over 150 basis points, only to narrow again during the recovery. Investors must determine how the yield spread affects their strategy. If they do not need to increase the quality of the portfolio during the low-confidence periods of a recession, they can enjoy unusually high returns on lower-grade instruments relative to higher grades.

Interest Rate Changes Affect Low-Quality Issues to a Greater Degree