Junk bond ETFs such as iShares iBoxx High Yield Corporate Bond (NYSEArca: HYG) and SPDR Barclays High Yield Bond (NYSEArca: JNK) are more sensitive to credit risks than interest-rate risk, relative to Treasuries.
However, that doesn’t mean the junk debt funds have been immune to the spike in Treasury yields this month.
Investors seeking to maintain exposure to high-yield corporate bonds but who want to reduce interest-rate risk are rotating into funds with shorter durations such as PIMCO 0-5 Year High Yield Corporate Bond Index (NYSEArca: HYS) and SPDR Barclays Short-Term High-Yield Bond ETF (NYSEArca: SJNK). [Two High-Yield Bond ETFs for Rising Rates]
For example, SJNK has held up better in May than its counterpart JNK, which holds junk bonds with longer durations.
JNK has a modified adjusted duration of 4.24 years, versus 2.19 years for SJNK, according to manager State Street Global Advisors.
HYS, the PIMCO high-yield ETF, has an effective duration of 1.92 years.
“HYS has a lower duration than its competitors in the high-yield bond category, which means that the fund will be less affected by rising interest rates,” according to a Morningstar analyst report on the ETF.
Rock-bottom Treasury yields and short-term interest rates have forced income investors to take on more risk in search of yield. Junk bond ETFs have been a recipient of a decent chunk of this cash. However, bond investors are worried about the damage that higher interest rates could inflict on their funds. Bonds yields and prices move in opposite directions.
Rising interest rates have come into focus as the economy improves and on talk the Federal Reserve may scale back its bond purchases.
Next page: Rate-hedged and defined-maturity ETFs
In fact, the ETF business has been rolling out high-yield funds that have built-in hedges against the risk of rising interest rates. These newfangled products include ProShares High Yield-Interest Rate Hedged (BATS: HYHG), Market Vectors Treasury-Hedged High Yield Bond ETF (NYSEArca: THHY) and First Trust High Yield Long/Short ETF (NasdaqGM: HYLS). [New High-Yield Bond ETF]
Also, Guggenheim Investments manages so-called defined-maturity ETFs for high-yield bonds that are geared to reduce interest-rate risk. The funds include Guggenheim BulletShares 2015 High Yield Corporate Bond ETF (NYSEArca: BSJF) and Guggenheim BulletShares 2014 High Yield Corporate Bond ETF (NYSEArca: BSJE).
The Guggenheim ETFs are designed to mature like individual bonds.
“These funds primarily buy bonds maturing in the year the funds will terminate, so that the funds can collect the bonds’ face value at maturity and pass the cash along to investors,” Tom Lauricella reported in a WSJ article earlier this month. “With other bond funds, investors risk getting back a lot less than their original cost if interest rates rise, because that pushes bonds’ market prices down.” [Defined-Maturity ETFs]
SPDR Barclays Short-Term High-Yield Bond ETF
Full disclosure: Tom Lydon’s clients own HYG and JNK.