Just short eight months ago, activist investor Carl Icahn referred to the junk bond fund market as a “keg of dynamite.” At that time, the junk bond market was in a temporary swoon. And while the risks are still very real, high-yield bond funds continue to deliver hot returns.
One proxy of performance, the SPDR High Yield Bond ETF (JNK), has gained 13% since mid-December compared to a 5% increase in the iShares Core U.S. Aggregate Bond ETF (AGG). After hitting an even lower low in mid-February, JNK is up 18.5% compared with just 3% in AGG.
High-yield bonds, sometimes referred to as “junk bonds,” are non-investment grade debt with a Ba1/BB+/BB+ or below rating using rating system of Moody’s Investors Service, Fitch Ratings, or Standard & Poor’s. Generally, the corporate debt issued by companies with a new credit history, a spotty track record of payments, or a heavy debt load are typically classified a “junk.”
Since the start of 2016, the yield on 10-year U.S. treasuries has dropped 30%. Because the relationship between bond yields and bond prices is inversely related, the decline in yields has pushed up the value of all bonds, including higher yielding issues.
High-yield bond funds have been among the top-performing bond fund categories this year, according to Morningstar data. As a group, the sector has risen 9.2% year-to-date and only mutual funds that invest in emerging market debt and long-term corporate and U.S. treasury debt have performed better, in the low double digits.
Among top performers within the high-yield group is the Catalyst/SMH High Income I (HIIIX), which has surged 26.3% year-to-date.
HIIIX carries a 30-day SEC yield of 8.83% and has almost 30% of its assets concentrated in just five high-yield bonds, with debt from Advanced Micro Devices being among the group. The $34 million fund is managed by Dwayne Moyers, who’s been at the helm since 2008, and Daniel Rudnitsky. Its annual expenses are 1.20%.
The Nuveen Symphony Credit Opportunities A (NCOAX) is another hot performer in the high-yield sector and has climbed 13.3%.
NCOAX has 76.25% of its exposure to corporate bonds, 12.05% to bank loans, and the rest to convertible bonds and commercial mortgage backed securities. The $660 million fund carries a 4.75% upfront load and charges 1% in annual expenses as well as a 0.25% 12b-1 fee. It carries a 30-day SEC yield of 6.11%.
“High-yield has remained resilient in the face of the recent reversal in market tone as has been reflected by the steady pace of new issuance, even amid continuing outflows from retails funds, with three new deals pricing one day last week for $1.5 billion in proceeds.
While high-yield funds continue to deliver better relative income and performance compared to funds that invest in top-notch rated debt, big risk still abounds.
The Dec. 9 crash of Third Avenue’s Focused Credit Fund (TFCVX) was the largest failure in the mutual fund marketplace since the 2007-2009 financial crisis. The fund’s collapse triggered deep losses in the junk bond category and left fund shareholders unable to redeem money.
Since then, financial regulators have been investigating how mutual funds manage liquidity and the financial implications of high-yield markets that sometimes freeze up.
At the end of June, the Third Avenue Focused Credit Fund had assets of $592 million and was being shopped for a potential sale, according to the Wall Street Journal. If a sale goes through, the proceeds would be used to compensate fund shareholders who lost their ability to withdraw money from the fund when redemptions were halted late last year.
Despite hiccups, high-yield bond funds as a group continue to chug along.
— Related on ThinkAdvisor:
- High-Yield Bonds: Only for Long-Term, Non-Squeamish Investors
- Are Bonds the New Stocks?
- Bill Gross: Historic 40-Year Stock and Bond Run Is Over