Investors have piled into ETFs indexed to speculative-grade corporate bonds as they stretch for yield and take on more risk in the process.
For example, iShares iBoxx High Yield Corporate Bond (NYSEArca: HYG) and SPDR Barclays High Yield Bond (NYSEArca: JNK) are among the five best-selling ETFs the past month. Each high-yield ETF has raked in more than $500 million during the past four weeks, according to XTF.com.
“The market for junk bonds, risky corporate debt that pays high interest rates, is red hot,” DealBook reports.
HYG and JNK have posted total returns of more than 6% year to date. They also boast 30-day SEC yields of more than 6%.
However, investor appetite for junk bonds has pushed yields to record lows.
“Junk bond funds are on a pace to take in a record amount of money this year. Companies with less than stellar credit are issuing hundreds of billions of dollars of bonds,” DealBook reports.
“Fueling this frenzy are investors of all stripes — including individuals, mutual funds and state pensions — who are desperate for returns in their bond portfolios and willing to take more risk to get them,” it notes. “Demand is insatiable, even as analysts warn that the market has become overheated and is ripe for a fall.”
Other junk bond ETFs include PowerShares Fundamental High Yield Corp Bond (NYSEArca: PHB) and PIMCO 0-5 Year US High Yield Corporate Bond Index Fund (NYSEArca: HYS). [High-Yield ETFs for a Low-Rate Market]
It’s no surprise investors are stretching for income with the 10-year Treasury note yielding a paltry 1.8%. Rock-bottom interest rates have punished savers. For example, the average five-year CD yield stood at 1.05% on August 9, according to Bankrate.com. The average money market account yield was 0.12%. [Short-Duration Treasury ETF Sees Outflows as Fees Top Yield]
However, there are concerns investors could end up getting burned. Junk bond ETFs have higher yields because investors are taking on more credit risk.
“This is not a sustainable state of affairs,” Bank of America analysts said in a recent note. “While the bid for high-quality yield is understandable in this environment, we question the extension of this reach into the economically and risk appetite-sensitive portions of the credit spectrum.”
“This could pave the way for some heartbreak down the road,” Les Levi, a managing director at North Sea Partners, told DealBook.
SPDR Barclays High Yield
Full disclosure: Tom Lydon’s clients own HYG and JNK.