High-Yield Bond Funds -- Year-End 2002 Review

Jan. 6, 2003 — High-yield bond funds rebounded over the last three months of 2002, and while that could not save them from finishing down for the year, it could be a harbinger of good things to come, money managers say.

Funds that invest in so-called junk bonds returned 6.2% on average in the fourth quarter, but lost 2.1% for the year, preliminary figures from Standard & Poor’s showed.

As for prospects for junk bonds in 2003, “I think there’s reason for optimism,” said Margaret Patel, who oversees Pioneer High Yield Fund/A (TAHYX). The recovery should continue because the economy has been strengthening, albeit slowly, she said. That environment makes it easier for companies to boost sales and pay off debt.

Patel and other junk bond managers noted that the difference in yields between high-yield bonds and Treasuries narrowed between October and December, signalling that investors were getting interested in junk bonds. The gap should continue shrinking gradually as the economy comes back, she said.

Portfolio managers also pointed out that the default rate for high-yield bonds, which had plagued the securities for two years, began to ease late last year, falling to about 8.7% recently from 9.8% in August. The percentage could dip to 5%-7% by the end of this year, said Thomas Price, a junk bond fund manager with Strong Funds.

Junk bonds had also been depressed for most of 2002 because of worries over corporate accounting.

A war in Iraq could derail the economy and hurt junk bonds. Fund managers, however, expect the U.S. to prevail in a short military confrontation, thus limiting any downturn.

Mark Vaselkiv, who runs T Rowe Price High Yield Fund (PRHYX), thinks that “if the economy gets back on its feet and stabilizes, and the uncertainty over geopolitical issues is resolved,” the high-yield market “should do well for a couple of years.”