Displaying items by tag: junk

(New York)

High yield companies have been big beneficiaries of the tumble in yields this year. But not in the way one thinks, not in the form of a big rally. Instead, highly indebted borrowers have been using the tumble in yields as a way to refinance their debt and lengthen out maturities. The practice has been very widespread. According to one portfolio manager, “It’s a recipe for disaster in the longer term … As an investor, it means you are lending to fairly risky companies at fairly low rates at the end of the cycle. It might not be three months from now or six months from now, but at some point these bonds are going to be pretty challenged”.

FINSUM: Kick the can down the road for as long as you can. That has been the mantra of junk bond markets since the Crisis. When will the musical chairs stop?

(Frankfurt)

American investors seem almost conditioned to ignore the rest of the world. Over the last decade that has been a pretty good plan as the US recovery and markets have had a Teflon coating that resisted global downturns. However, rates market in Europe is sending some grave warning signals. Try this on for size: several European junk bonds are now trading at negative yields. Yes, you read that correctly, investors are paying for the privilege of holding junk in Europe.

FINSUM: This is not some ultra-safe Germany sovereign bond that has negative yields. We are talking run-of-the-mill EU junk bonds having negative yields. That is a big warning sign.

(New York)

The dovishness from the Fed has been bullish for most of the debt market, with sovereign yields falling and corporate debt getting a boost. However, the riskiest corner of the market, triple C junk bonds, have been left out, with the group falling by 1.5% since May. Triple B bonds, by comparison, were up. The odd part about the losses is that signs of an interest rate cut are usually very bullish for junk bonds because they would mean lower interest burdens for the companies. That said, anxiety about the economy is high enough that such benefits were negated.

FINSUM: This whole situation makes sense in that the downside risk of a sinking economy is greater than the upside of lower interest rates for this subsector. Thus, the bonds are losing. In other parts of the credit spectrum, the risk-reward balance is different.

(New York)

Today we wanted to write a story covering the topic of rate hedged ETFs. We have been examining these lately and feel they are in high demand because of the need for stable income for retirees and the still-relevant threat of higher rates. Mortgage REIT ETFs, such as iShares’ REM really caught our eye with 9%+ yields. However, they are very rate sensitive, so we wanted to find a better option. Enter ProShares’ HYHG, or the High Yield-Interest Rate Hedged ETF. The fund yields over 6% in a highly hedged manner, it goes long high yield US and Canadian debt and simultaneously shorts US Treasuries. The expense ratio is 0.50% and the fund has $127 under management.

FINSUM: This seems like a great fund to us—6% income with only 50 basis points in fees, all in a rate hedged package.

(New York)

Bond investors are getting nervous, and not about the Fed or interest rates. Rather, they are worried about corporate credit. Most will be aware that corporate credit issuance surged over the last decade, especially in fringe investment grade BBB debt. Now, investors are fearing a “wall of maturities”. In the next three years, one third of all triple B rated US debt will come due, a huge test for the group of highly indebted companies. Companies will then need to refinance in this much-less-friendly environment. The Bank for International Settlements warns that in the next downturn, many BBB rated bonds will be downgraded to junk, which will cause fire sales.

FINSUM: Our big worry here is that many institutional investors have strict mandates to not hold junk bonds, so if a solid number of companies fall from the BBB level, there will indeed be huge fire sales in credit markets.