Should investors stick with stocks as interest rates rise?
For investors who have grown accustomed to using bonds as a stabilizing force in portfolios, rising interest rates create an uncomfortable contradiction: higher yields make new bonds more attractive, while simultaneously reducing the value of bonds already owned.
Corporate bonds add another layer of complexity. Unlike Treasurys, they carry credit risk, so investors are compensated not only for lending money over a specified period but also for accepting the possibility that a company could encounter financial trouble. When markets become more concerned about corporate credit quality, spreads widen and bond prices can fall even if Treasury yields remain unchanged.
That combination produced significant pain in 2022. It is also why the recent rise in interest rates deserves careful attention from advisors.
Yet today’s corporate-bond market is not simply a replay of 2022. Companies have had several years to adjust to a higher-rate environment, balance sheets are generally better positioned than they were during the initial transition, and history shows that corporate spreads can remain relatively tight even when interest rates are elevated.
For advisors, the more useful question is therefore not whether corporate bonds are “safe” when rates rise. They are not. The better question is whether today’s compensation for duration and credit risk remains sufficient for the role corporate bonds are expected to play in client portfolios.
The Double Risk Embedded In Corporate Bonds
Every fixed-rate bond has interest-rate risk. If an investor owns a bond paying 4% and newly issued bonds begin offering 5%, the older bond becomes less valuable. Its price must fall enough to make its remaining cash flows competitive with newly available alternatives.
Corporate bonds have an additional variable: credit spreads.
The spread represents the additional yield investors demand over a comparable government bond for accepting corporate credit risk. When investors become more concerned about economic conditions, corporate balance sheets or the possibility of defaults, they typically demand wider spreads.
That can create a double hit.
In 2022, the ICE BofA corporate bond index spread was approximately 1 percentage point at the end of 2021. It subsequently climbed to roughly 1.7 percentage points. At the same time, Treasury yields increased dramatically as the Federal Reserve moved aggressively to combat inflation.
The lesson for advisors is important: a corporate bond portfolio does not need widespread defaults to experience meaningful losses. A repricing of credit risk can be enough.
That distinction matters when discussing bonds with clients who still think of fixed income primarily in terms of maturity and coupon. A five-year corporate bond is not simply a five-year Treasury with a higher yield. Its return is influenced by both the level of interest rates and the market’s assessment of the issuer’s credit risk.
Why This Cycle May Not Look Like 2022
The argument for caution is straightforward. Corporate spreads have compressed substantially since their 2022 widening and are now below the levels that prevailed at the beginning of that cycle. That leaves less room for spreads to tighten further and potentially more vulnerability if investors suddenly demand greater compensation for credit risk.
But the other side of the equation is equally important.
The Federal Reserve’s tightening cycle beginning in 2022 was unusually abrupt. Rates moved from exceptionally low levels, after years of extraordinary monetary accommodation, to substantially higher levels in a relatively short period.
A comparable shock would require a very different set of circumstances today.
Companies have already spent several years operating in a higher-rate environment. Corporate treasurers have refinanced debt, extended maturities and issued bonds at yields that are much closer to current market rates. The adjustment is therefore no longer happening from a near-zero starting point.
That does not eliminate refinancing risk. It changes its timing and magnitude.
A company that refinanced aggressively in 2021 may eventually have to replace inexpensive debt with considerably more expensive financing. But a company that has already refinanced at contemporary yields has less of that adjustment ahead of it.
For advisors, this is one reason to avoid treating “higher rates” as a single variable. The impact on corporate borrowers depends heavily on when they borrowed, how long their debt lasts, how much floating-rate exposure they have and how much cash flow is available to service the debt.
High Yields Do Not Automatically Mean Wide Spreads
History also provides an important counterpoint to the assumption that elevated interest rates must lead to elevated corporate spreads.
In the late 1990s, for example, the Federal Reserve’s policy rate was considerably higher than it is today. Yet in 1997, spreads on the ICE BofA high-grade corporate index fell below 0.6 percentage point.
That year, the Fed increased its target rate from 5.25% to 5.5%.
The historical comparison does not predict what corporate bonds will do next. But it does demonstrate something useful for portfolio construction: absolute interest rates and credit spreads are separate variables.
A high Treasury yield does not necessarily mean investors require a high credit premium.
Indeed, higher yields can sometimes support corporate credit markets if the economic backdrop remains healthy. If companies are generating strong cash flow, maintaining manageable leverage and refinancing debt without significant deterioration in credit quality, investors may continue to accept relatively narrow spreads.
This is particularly relevant today because corporate-bond investors are being compensated with yields that were difficult to obtain during much of the post-financial-crisis era.
The question is whether that compensation adequately reflects the risks underneath it.
The Hyperscaler Question
One emerging issue deserves particular attention: corporate bond issuance from the technology companies investing heavily in artificial intelligence.
The hyperscalers have become significant borrowers as they finance enormous investments in data centers, computing infrastructure and related capacity. Their access to capital markets has helped absorb investor demand for high-quality corporate debt while giving investors additional supply of highly rated securities.
But BofA strategists expect issuance from the hyperscalers they track to decline over the next two years.
There are two very different ways to interpret that outlook.
The favorable interpretation is that these companies may increasingly fund AI investment through internally generated cash flow. If AI-related businesses begin producing substantial revenue and cash generation, the companies may need less incremental debt.
The less comfortable possibility is that demand for hyperscalers’ computing services slows. If AI infrastructure spending moderates, borrowing requirements could decline because companies simply need less capital to expand.
For bond investors, those scenarios have different implications.
Reduced issuance could provide technical support to existing corporate bonds by limiting supply. But if declining issuance reflects weaker expectations for AI-related growth, the fundamental implications could be less favorable.
Advisors should therefore resist looking at corporate-bond supply in isolation. The reason companies are borrowing—or choosing not to borrow—can matter as much as the amount of debt coming to market.
What Advisors Should Watch
The right response to this environment is not necessarily to abandon corporate bonds. It is to become more precise about the risks clients are actually being paid to take.
First, advisors should monitor credit spreads separately from Treasury yields. A rising 10-year Treasury yield does not tell you whether corporate credit is becoming more or less attractive. The combination matters.
Second, examine maturity concentrations. A corporate bond portfolio with substantial exposure to issuers refinancing large amounts of debt in the next several years has a different risk profile from one with staggered maturities.
Third, evaluate credit quality rather than relying solely on portfolio-level yield. A higher yield can come from duration, lower credit quality, weaker liquidity or some combination of the three. Advisors should know which risk is generating the incremental income.
Fourth, pay attention to issuer concentration. The growth of hyperscalers and other enormous corporate borrowers has created a market in which a relatively small number of companies can represent meaningful portions of certain corporate-bond portfolios and indexes.
Finally, stress-test portfolios for the combination investors often overlook: higher Treasury yields plus wider spreads. That is the scenario that can produce materially larger losses than either variable alone.
How To Talk About Corporate Bonds With Clients
The client conversation should also evolve.
Rather than describing corporate bonds as simply a source of “income,” advisors can frame them as a collection of exposures: duration, credit quality, liquidity and reinvestment risk.
That distinction becomes particularly valuable when clients compare today’s bond yields with those available several years ago. The income opportunity is undeniably different from the ultra-low-yield environment that preceded 2022. But higher yields do not eliminate price volatility.
The message is not that clients should avoid bonds because rates might rise. Nor is it that today’s yields guarantee attractive returns.
Instead, advisors can explain that higher starting yields provide more income and potentially improve long-term return potential, while the path of interest rates and credit spreads determines the experience along the way.
That is a more useful framework for portfolio decisions than trying to forecast the next move in rates.
The Strategic Opportunity
Corporate bonds occupy an interesting position in today’s market.
Their spreads have become relatively tight, which means investors have less of a cushion against a deterioration in credit conditions. Yet companies are no longer emerging from an era of virtually free money, and the Federal Reserve would have to deliver a very different kind of shock to recreate the precise conditions of 2022.
Meanwhile, history demonstrates that high interest rates and narrow corporate spreads can coexist.
For wealth advisors, the implication is less about making a binary call on corporate bonds and more about underwriting the risks with greater discipline. The attractive feature of today’s market may be the income available from bonds, but the portfolio-level value depends on whether that income adequately compensates clients for duration, credit and liquidity risk.
That makes corporate bonds neither an automatic defensive asset nor an obvious casualty of rising rates.
They are a tool whose usefulness depends on construction.
In an environment where rates can move higher and credit spreads have relatively little room to compress, the advisor’s advantage is not predicting which direction markets move next. It is knowing which risks are embedded in the portfolio, which clients are being compensated for taking them, and how much of that compensation could disappear if the market’s assumptions change.
That is ultimately the more durable role for corporate bonds in a modern wealth portfolio: not a promise of stability, but a deliberately managed source of income and diversification whose risks are understood before they become visible in performance.
