Whether in sports or financial markets, averages often grab headlines, but they can conceal as much as they reveal. Variation—including the dispersion of metrics like credit spreads for high-yield bonds—is the real story.
It’s a barometer of the opportunities where skilled active portfolio managers can add value through security selection, especially when combined with low costs. To paraphrase, variation is the mother of innovation … and excess returns.
In recent months, headline spreads in high-yield bond markets have been tight.[1] Investors may believe that tight headline spreads imply a lack of opportunity, but for active managers, the variation—or dispersion—of the underlying securities’ spreads reveals the true potential for generating alpha through security selection. [2] While the opportunity to add value exists in any headline spread environment, greater variation around benchmark averages means greater opportunities to identify mispriced market segments or bonds—and the potential to generate excess returns.
To illustrate how variation plays out in different spread environments, the figure below uses five years of monthly bond-level spread data for the Bloomberg High-Yield Corporate Bond Index. First, we bucketed all high-yield bonds by credit quality ratings to account for risk and calculated the monthly variation of spreads in each quality segment. Then, we categorized the monthly results into quintiles based on the headline spread to show variation in lower and higher headline spread environments.
Variation, and the opportunity it grants to active managers, is clearly present in all spread environments across quality segments. It increases as credit spreads widen and is consistently greatest in CCC-rated bonds. With that said, wider credit spreads and lower bond ratings are also signals of greater risk, so making sure these investments are appropriately aligned with the investor’s goals, time horizons, and risk tolerances is paramount.
Variation and opportunity increase with risk
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Notes: We used monthly data for the Bloomberg High-Yield Corporate Bond Index for the five-year period from September 30, 2020, through August 31, 2025. The chart displays the monthly cross-sectional standard deviation of spreads within each quality segment. Monthly data are grouped in quintiles (five equal-frequency buckets) based on the asset-weighted headline spread of bonds available in the high-yield market in that month. To better represent an active manager’s opportunity set, we removed all bonds with a zero or negative spread (which can be defaulted or tendered bonds) and those with a spread greater than 5,000 basis points (as default is likely imminent).
Source: Vanguard calculations based on data from Refinitiv as of August 31, 2025.
If you are considering investing in high-yield bond funds, don’t base your decision on average spreads alone. Variation in spreads provides active high-yield bond managers with opportunities to add value. But manager skill and low costs are crucial.
If you can take the heat of added risk, variety is the spice of life, and the source of opportunity for active managers.
The author would like to thank Erich Pingel for his thoughtful discussions and data support.
Notes:
All investing is subject to risk, including the possible loss of the money you invest.
Diversification does not ensure a profit or protect against a loss.
Bond funds are subject to the risk that an issuer will fail to make payments on time, and that bond prices will decline because of rising interest rates or negative perceptions of an issuer's ability to make payments.
High-yield bonds generally have medium- and lower-range credit quality ratings and are therefore subject to a higher level of credit risk than bonds with higher credit quality ratings.
Bloomberg® and Bloomberg Indexes mentioned herein are service marks of Bloomberg Finance LP and its affiliates, including Bloomberg Index Services Limited (“BISL”), the administrator of the index (collectively, “Bloomberg”) and have been licensed for use for certain purposes by Vanguard. Bloomberg is not affiliated with Vanguard and Bloomberg does not approve, endorse, review, or recommend the Financial Products included in this document. Bloomberg does not guarantee the timeliness, accurateness or completeness of any data or information related to the Financial Products included in this document.
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[1] Credit spreads refer to option-adjusted spreads. Headline spreads refer to asset-weighted average option-adjusted spreads of the Bloomberg High-Yield Corporate Bond Index.
[2] We define dispersion as the standard deviation of spreads for a quality segment in a given month.
