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Investors are piling back into funds that buy junk-rated corporate bonds and loans, despite elevated default rates

So much for the dog days of summer. Companies with low credit ratings are feverishly issuing new bonds and loans to capitalize on the appetite for risk that is driving stocks to record highs.

Buying by individual and institutional investors is pushing up prices for junk debt and driving down yields to levels not seen since before President Trump’s “Liberation Day” tariffs in April. That is prompting companies to refinance existing debt and slash their interest expenses.

One possible danger: Defaults among junk-rated companies have been elevated. If tariffs fuel inflation or slow down the economy, analysts say more defaults are likely. That means investors could lose out on their bets and likely see prices of other high-yield bonds fall.

Investors have been piling back into high-yield mutual funds and exchange-traded funds since May.

They are betting U.S. economic activity will strengthen if the Federal Reserve begins cutting interest rates as expected in September. But there are also signs tariffs are pressuring corporations.

Downgrades accounted for two-thirds of S&P Global Ratings’ credit-rating actions in the second quarter, up from about half in the first quarter.

The average yield of around 6.75% is still juicy enough to attract buyers. The premium for junk bonds—or the spread on yields compared with Treasurys—remains slightly above its recent low in January, suggesting the rally could continue.

Issuance of junk-rated bonds and loans hit a monthly record of $240 billion in July, according to data from JPMorgan Chase. This month is also expected to be the busiest August ever, with total issuance set to exceed $100 billion.

That brings the amount companies have raised from junk bonds and loans so far this year to $930 billion, just shy of the $1 trillion issued during the same period in 2024, despite the credit freeze this spring.

Most of the deals refinanced existing debt, but others went to less conservative uses. Aircraft parts maker TransDigm Group issued a $9 billion bond in August to fund a dividend to shareholders.

“If the markets stay in the condition they are, they will remain busy through the rest of the year,” said Trip Morris, co-head of leveraged finance at Wells Fargo.

Funds that make private loans to riskier corporations have been booming in part because they pay even higher yields than their public counterparts.

The money managed by business development companies, which make private loans to small and midsize companies, jumped by about 33% over the 12 months ending in June, according to data from LSEG’s loan data unit.

The performance of the funds’ portfolio companies has been generally stable, according to Morgan Stanley research. But smaller borrowers have been pressured by tariffs and weakening consumer spending, pushing the ratio of delinquent loans held by BDCs to 2.9% at the end of June. That’s up from 2.7% in March and about 2.25% in December.

Signs of trouble are also emerging in public high-yield bonds and loans, where the default rate has remained above the 30-year average since July 2023. That is a longer stretch than any of the previous three default cycles, including the subprime credit crisis, according to data from S&P Global Ratings.

The period of elevated defaults has the potential to drag if the risk of runaway inflation prevents the Fed from sharply cutting interest rates. If interest rates remain elevated, larger junk-rated companies could start to buckle under their debt loads.

The current default rate of 4.7% is still well below the 12% peak hit in 2009.