NEW YORK (TheStreet) -- The high yield bond market has stabilized since worries about falling energy prices dragged it down last winter. Richard Lindquist, head of high yield at Morgan Stanley Investment Management, says the good times will continue as long as defaults stay low and the Federal Reserve does not spook the market.
"At the end of 2014 people didn't know where the bottom was in oil prices, so to some extent a big part of the selloff was justified," says Lindquist. "It really forced people to do research on their energy holdings and find out which companies had good hedges and what type of access to the capital markets they had."
Now that the troubled energy companies and their potentially problematic paper have been identified, Lindquist says fund managers and investors have regained confidence in the overall high yield sector. He says he is finding value in the industrial sectors that are still slowly recovering from the 2008 market collapse, as well as some consumer durable names that are growing with the economy.
"Our view is that default rates are likely to remain contained and that high yield issuers, just like investment grade counterparts, will be equally supported by the economy," says Lindquist. "We believe that the middle market of the high yield universe, specifically, can potentially provide that sweet spot for investors-a higher yield, less correlation to interest rates and lower volatility than larger issuers."
Lindquist says supply has not been a problem to date because most of the issuance in the last several years has been used for refinancing. In other words, while the new issue calendar has been sizeable, supply of new high yield bonds has not grown dramatically on a net basis. He adds that the lack of leverage buyout activity, which in the past has signaled the arrival of higher default rates, has also been a positive for the market when it comes to supply.
In Lindquist's view, the biggest risk to the high yield market may be the Federal Reserve and the potential reaction to a highly anticipated rate hike.
"If the rate rise is slow and gradual and absorbed fairly well by the markets then I think high yield will not be severely impacted," says Lindquist. "But if people start panicking about the Fed moving too quickly, then you may see a more dramatic selloff."