After a dismal performance in late 2014, junk (high yield) bonds seem back on track this year on investors’ drive for higher yields. Countries across the globe has chosen loose monetary policies either by cutting interest rates or buying government bonds to stimulate sagging growth and prevent deflationary pressures in contrast to tighter policy by Fed. This has raised the appeal for risky yield plays (read: Junk Bond ETFs--Unfortunate Victims of the Oil Crash?).
This is especially true, as high yield ETFs saw huge capital inflows in the first few weeks of 2015. In fact, the ultra-popular iShares iBoxx $ High Yield Corporate Bond ETF (HYG - Free Report) has pulled in over $2.9 billion in capital so far in the year and is the second top asset gatherer of 2015. The iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD - Free Report) and SPDR Barclays Capital High Yield Bond ETF (JNK - Free Report) are also among the top 10 asset gatherers, having accumulated nearly $2.2 billion and $1.8 billion, respectively.
Inside the Popularity
An improving U.S. economy will continue to keep default rates at lower levels and tighten spreads, making these junk bonds attractive. Notably, the spread between Treasury and high yield bonds narrowed to 4.53% from 5.04% at the end of 2014, suggesting that investors are now demanding lower premium than comparable Treasury bonds in order to compensate for the risk.
Additionally, the Fed is on track to raise interest rates later this year that will hurt bond prices as yields and prices have an inverse relationship. The impact of this has already been felt with yield on 10-year Treasury bond currently hovering around 2%, a sharp increase from 1.65% seen early in the month. In such a backdrop, junk bonds provide cushion against rising interest rates as these are generally less sensitive to interest rate fluctuations while offering outsized yields (read: Rising Interest Rates Are Great News for These Bond ETFs).
Further, yields in this sector offer a significant premium over the more highly rated Treasury bonds. The high yield bonds tend to outperform the other corners of the fixed income market when the economy is in full swing. And given low default rates, the hefty yield premium could be worth chasing. Moreover, the declining fixed-income markets liquidity encourages investors to look into this lucrative corner.
Yield-hungry investors find it difficult to ignore this opportunity to tap meaty dividends. While there are a number of options in this segment, we have taken a closer look at the three high-yield corporate bond ETFs that are actually leading the fixed income world, outpacing the broad fund (BND - Free Report) .
These ETFs could maximize investor’s returns while maintaining low correlated assets, and thus could be high quality picks.
Market Vectors Fallen Angel ETF ((ANGL - Free Report) )
This innovative fund uses sampling strategy to track the performance of the BofA Merrill Lynch US Fallen Angel High Yield Index and focuses on ‘fallen angel’ bonds. Fallen angel bonds are high yield securities that were once investment grade but have fallen from grace and are now trading as junk bonds. This unique approach results in a portfolio of 150 securities with financials as the top sector and none holding more than 2.01% share.
The fund has effective duration of 5.60 years and 11.13 years to maturity. The ETF trades in paltry volumes of around 7,000 shares and charges a relatively low fee of 40 bps per year from investors. It has amassed just $22 million in its asset base and has added 5.4% so far this year. It yields 5.31% in dividends per annum, which is higher than the 30-day SEC yield of 4.60% (see: all the High Yield Bond ETFs here).
WisdomTree BofA Merrill Lynch High Yield Bond Zero Duration Fund ((HYZD - Free Report) )
This ETF follows the BofA Merrill Lynch 0-5 Year US High Yield Constrained, Zero Duration Index with effective duration of -0.15 and years to maturity of 3.61. Holding 95 securities in its basket, the fund is widely spread across components with each security holding less than 2.9% of HYZD.
The product is often overlooked by investors as depicted by its AUM of $16.8 million and average daily volume of 23,000 shares. Expense ratio came in at 0.43%. The fund yields 4.32% in annual dividends, much higher than the 30-Day SEC yield of 3.72%.
Guggenheim BulletShares 2022 High Yield Corporate Bond ETF ((BSJM - Free Report) )
This ETF follows the NASDAQ BulletShares USD High Yield Corporate Bond 2022 Index, a benchmark which measures the performance of a held-to-maturity portfolio of U.S. high yield corporate bonds with effective maturity in the year 2022. The product holds 51 securities in the basket with none holding more than 2.63% of assets and energy minerals, consumer services and communications make up for top three sectors with a combined 37.8% share (read: Guggenheim Launches 4 More Target Date Bond ETFs).
It targets mid-term bonds with average maturity of 7.49 years and average duration of 5.54 years. The fund has accumulated $10 million in AUM since its debut five months ago. It charges 42 bps in annual fees and trades in lower volume of around 5,000 shares per day. In terms of yield, the ETF currently pays 4.72% in annual dividends, much higher than the 5.23% in 30-Day SEC yield.
Investors continue to embrace high-yield bond ETFs for their portfolio thanks to outsized yields and the low default risk. Further, with a strengthening economy and interest rates hike on the cards, the demand for high yield products will continue to rise.
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