High-Yield Bond Funds -- Mid-Year 2005 Review

The high yield bond market bounced up and down during the second three months of the year before ending the quarter modestly higher.

The average mutual fund that invests in high-yield, or junk bonds, returned 1.5% during the period. For the first half of the year, the funds rose 0.8%.

“The market has been schizophrenic this year,” said Mark Vaselkiv, who runs the T. Rowe Price High-Yield Fund (PRHYX).

Junk bonds were overvalued through mid-March, which led to a downturn late in the month that lasted until the middle of May, Vaselkiv said. Since then, the sector has rallied somewhat, he and other observers said.

Standard & Poor’s has found that volatility in the U.S. speculative-grade market intensified in April and May, but appears to be retreating in June.

Observers said that starting at the end of the first quarter, investors were worried that the market would be hurt by higher interest rates as the Federal Reserve tightened monetary policy.

There were also concerns about the market’s ability to digest large batches of bonds from giant automakers General Motors (GM) and Ford Motor (F) that were downgraded to junk status in May.

Neither problem materialized, however. Although short-term interest rates have ticked up, long-term rates, which junk bonds tend to follow, have moved lower or stabilized. And the entrance of GM and Ford went smoothly.

“We weathered the GM-Ford storm, and the rate storm turned out to be a shower instead of a thunderstorm,” said Dana Erikson, who oversees the Evergreen High-Yield Bond Fund (EKHAX).