Bond market on continuous alert! U.S. junk bonds suffer worst quarter since 2022, tech bonds deeply trapped in AI "disruption panic"

The US junk bond market is experiencing its toughest quarter in nearly four years. The impact of artificial intelligence on the tech sector, soaring oil prices, and rising US Treasury yields are all suppressing investor risk appetite.

On March 31, Bloomberg data showed that as of the close of trading this Monday, the US junk bond market is down 1.1% in quarterly returns, with the lowest-rated CCC bonds suffering the biggest decline of 1.85%. This is the first quarterly negative return for junk bonds since the second quarter of 2022, when these assets dropped 9.8% in a single quarter.

Market participants generally believe that this downturn is fundamentally different from 2022. The current economic fundamentals are more robust, and the Federal Reserve is expected to keep interest rates stable or pivot to rate cuts later this year. Several analysts have said that the risk of mass defaults remains limited, and the market adjustment is more of an orderly reset than a panic sell-off.

Tech sector leads declines, energy bonds rise against the trend

This quarter’s junk bond decline is mainly led by the tech sector. According to Bloomberg data, tech high-yield bonds have dropped more than 3.4% in returns this quarter, with software company bonds particularly affected by expectations of disruption from artificial intelligence. However, Barclays credit strategist Corry Short pointed out that the tech sector accounts for less than 5% of the junk bond market, so its overall drag is relatively limited. He noted that sectors with higher software exposure have significantly underperformed the broader market.

Meanwhile, energy high-yield bonds have risen 2% against the trend, benefiting from sharply rising oil prices. Brent crude prices broke through $100 per barrel this quarter and are now hovering around $110. Since January 1, Brent has surged 78%, while WTI has climbed around 80%.

Vishwas Patkar, head of US credit strategy at Morgan Stanley, said energy is the only sector where spreads have narrowed so far this year, whereas spreads in the tech sector have widened much more than the overall index.

Spread widening is limited and cannot be compared to 2022

Although market sentiment has fluctuated, the spread between junk bonds and US Treasuries is currently around 300 basis points, Patkar noted, which remains near “historical lows.” He stated:

“I wouldn’t say this is widespread panic, but spreads have indeed widened in the past few weeks. The market has priced in some risk premium, but overall it’s an orderly reset, not a panic-driven event.”

Barclays’ Short further noted that the main cause of negative returns this quarter is shifts in US Treasury yields, not a significant expansion of credit spreads.

Looking back at 2022, junk bonds posted a full-year decline of 11.1% in returns. At the time, surging post-pandemic demand and the Russia-Ukraine conflict's impact on oil prices jointly fueled inflation, as the Federal Reserve raised rates by more than 400 basis points that year, hitting high-yield bonds with a double blow.

Bob Kricheff, portfolio manager at Shenkman Capital Management, said the market in 2026 is completely different from 2022. The current financing market is functioning normally, and healthy access to capital markets has persisted for quite some time, something absent in 2022.

Default risk is controllable, market concerns may be overblown

Many market participants hold a relatively optimistic view of the current situation. Dave J. Breazzano, co-founder of Polen Capital Credit LLC, noted that by the end of last year, market pricing had almost fully reflected tighter spreads, and the anxiety caused by private credit, artificial intelligence, and oil price volatility pushed returns into negative territory this quarter. However, the likelihood of large-scale defaults remains low, and there are currently no major credit quality risks in the public junk bond market.

Breazzano added that concerns about inflation and artificial intelligence severely impacting the high-yield bond market are somewhat “exaggerated,” and current market fluctuations should gradually dissipate without causing lasting significant negative effects.

Regarding interest rate expectations, bond traders previously priced the likelihood of a Fed rate hike this year at nearly 50%, but last week shifted back to betting on a rate cut. Investors and analysts generally expect the Fed to keep rates stable or loosen moderately this year, offering some support to the junk bond market.

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