Investors have been “pouring money into bank-loan funds” as interest rates rise, Strauts notes. After dipping below 1.7% in early May, yields on 10-year Treasury notes have vaulted to around 2.6%.
“Rising rates have had very little effect on the price of bank loans, given that their duration tends to be very near [zero]. And given that the economy has continued to improve, the default rate within the sector over the past year has been just 1.4%,” the Morningstar analyst said.
Ownership of bank loans has changed in recent years after the financial crisis blew up many leveraged hedge funds. Retail investors are filling the void, he said.
“Bank-loan funds have received record inflows in 2013. Since the end of June, $33 billion has been invested in the category. The five largest monthly inflows on record occurred over the past five months. There is clearly tremendous investor interest in the sector,” Strauts wrote.
He thinks the broader ownership among retail investors is a positive development for the overall health of the bank loan market. “Under ‘new ownership’ small losses will be less likely to cause panicked selling in the retail market the way it did amongst hedge funds meeting margin calls,” Strauts added.
Meanwhile, the biggest risk facing the bank-loan sector is a U.S. recession, he said.