Bond Boss: an income play less dependent on rate changes

Higher interest rates over the past three years have encouraged UK savers to invest more in cash accounts – both from a yield and risk perspective. But with interest rate cuts increasingly expected over the next few years, these elevated yields currently available may not last.

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Meanwhile, recent geopolitical tensions, including the war in Iran, have also reminded markets that interest rate volatility is a key risk. This might also slow the Bank of England’s rate-cutting cycle. If that helps cash rates, a potential delay to rate cuts is prompting many investors to reconsider where they source income. Enter high-yield bonds.

Short‑duration strategies are less sensitive to interest rate changes and have helped cushion portfolios from market swings. In the past few weeks, high-yield bonds have been outperforming their investment-grade equivalents thanks to their higher levels of income and low duration, which makes them less sensitive to changes in rate expectations.

This combination of robust corporate fundamentals and unusually attractive yields makes high-yield bonds an appealing option in today’s turbulent world. For investors prepared to take a measured step up the risk spectrum, the asset class offers greater income potential than cash or gilts, while avoiding the full volatility of equities.

Why high-yield bonds stand out today

One of the key reasons investors are looking again at high yield is simple: income is back. Global high-yield yields currently stand above 6.5%. Evidence shows that when yields begin from such elevated levels, subsequent returns tend to be strong.

What makes this pattern so consistent? Unlike with many asset classes, income – specifically coupon income – is the dominant driver of high-yield total returns. Over the past 20 years, coupon income has accounted for more than 100%* of total global high-yield returns. Other factors, such as credit spreads, have at times detracted from performance during volatile periods.

This means high yield could be well positioned to generate stable total returns even in turbulent markets. In contrast, money market funds and UK government bonds, while stable, offer limited upside and may see their yields fall materially as soon as central banks begin easing policy.

*Because prices sometimes fall, the income ends up doing all the work, meaning more than 100% of the final return can come from coupons.

Comparing high yield to equities: understanding the correlation

A common question UK retail investors ask is: how do high-yield bonds behave relative to equities? Because high-yield issuers are lower‑rated companies, their bonds do exhibit some correlation with equity markets, particularly during sharp risk‑off episodes. However, the relationship is far from linear.

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High yield typically experiences lower volatility than equities, largely because of its coupon‑driven return profile. Even when bond prices fall, income keeps accumulating, cushioning investors against short‑term swings. High yield also has shorter duration, often around three to four years, which limits sensitivity to interest rate movements and helps reduce overall portfolio volatility.

In practice, high yield tends to sit between equities and investment‑grade bonds on the risk-return spectrum, offering a more balanced way to capture corporate‑linked returns without full equity exposure.

A supportive backdrop: fundamentals and default risks

Strength in corporate fundamentals is also boosting confidence in today’s high-yield markets. Several indicators point to a more stable, healthier environment than in previous cycles:

• Defaults are expected to remain low, in the region of 1.5 to 3%, below long‑term averages
• Most upcoming refinancing is in higher‑quality BB‑rated companies, which generally have stronger finances and can access funding more easily
• Overall credit quality in high-yield markets is higher than in many past periods, partly reflecting years of disciplined refinancing and balance‑sheet repair.

Together, these factors create a backdrop where investors can be compensated at attractive levels without a sharp rise in default risk.

Where investors can potentially add value: quality, income, diversification

While the high-yield market itself is attractive, certain approaches make the opportunity more compelling. Three principles stand out:

1) Focus on reliable coupon income

Given that coupon income drives long‑term high-yield returns, strategies that prioritise stable, high coupons – rather than trying to predict short‑term price moves – have historically delivered more consistent outcomes. Coupon income has represented the majority of total returns over two decades, while spread-related volatility often detracted from performance.

2) Combine developed and emerging market exposure

Global high-yield markets are not monolithic. Emerging market high-yield bonds, for example, often offer higher average yields as well as higher average credit quality than some developed market high-yield segments. Blending developed and emerging market exposure allows investors to access a broader range of opportunities and potentially enhance diversification, reducing reliance on any single corporate sector or region.

3) Maintain discipline on credit quality

High yield spans a wide spectrum, from relatively stable BB‑rated bonds to riskier CCC issuers. Prioritising the higher‑quality end of the market, while still capturing elevated coupons, may help balance income and resilience by avoiding the default‑prone tail of the market.

High yield vs low‑risk alternatives: what’s the trade‑off?

While cash and gilts are essential building blocks for many portfolios, their attractiveness depends heavily on interest‑rate levels. With markets expecting rate cuts, today’s high cash and gilt yields may prove temporary.

High-yield bonds, in contrast, offer:

• Higher starting yields
• A history of strong forward returns when yields begin at current levels
• Less sensitivity to interest-rate changes
• A meaningful income cushion that can help smooth volatility

For investors seeking to protect and grow their income as conditions evolve, this balance is increasingly worth considering.

What does this mean for investors?

High-yield bonds are not risk‑free. But today’s unusually attractive starting yields, combined with solid corporate fundamentals and historically low default expectations, create one of the most favourable entry points in years.

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For income‑focused investors looking beyond cash and gilts – and for those who want exposure to corporate credit without the full volatility of equities – high yield may offer a compelling middle ground. Approaches that emphasise stable coupon income, global diversification and disciplined credit selection remain well suited to today’s landscape.

All data cited is sourced from Aberdeen Investments as at 31 December 2025.