According to Lipper, $3.4 billion has gone into U.S. high yield mutual funds and exchange trade funds in Q1 2014, well above last year’s first quarter inflows of $1.76 billion.1We have seen a very stable new issue market over the first quarter to fill this inflow of money and as companies look to refinance existing debt at lower rates.
High yield bond investing, and really investing period, not only involves picking the right security but buying it at right price/yield. With the demand for high yield paper, we have seen the market participants get more complacent in terms of what sort of yields they require for paper. Case and point is the Realogy deal that priced yesterday.
Realogy is the parent company of the real estate brokers Century 21, Coldwell Banker, and Sotheby’s International. This was a company on the brink during the financial crisis, but has certainly recovered, even able to do an IPO in 2012. Yesterday the company issued $450mm in unsecured bonds at a yield of 4.5%.
The proceeds from these bonds were being used to take out existing 7.875% bonds, so certainly an interest cost savings to the company and a benefit to existing bondholders in the company.
But as investors in the market, we look at this transaction and are left scratching our heads. Why are investors only demanding a yield of 4.5% in a name that is certainly cyclical and is rated Caa1 by Moody’s? Is the mentality or investment strategy of passively investing in anything that comes to market blinding people in certain cases?
We ultimately see this sort of situation as the value that active management can add to investing. Active managers don’t have a mandate to hold any certain securities, thus they can pick and choose as to what they feel offers the best return level for a given risk profile.
As we look at this company, this is certainly the type of investment we would avoid. The high yield bond market still offers plenty of what we view as very attractive opportunities in credits that we see as solid companies at yields about 300 basis points or more above the yield level on this bond.
To use the cliché, as investors we want to get the best bang for our buck and active investors are able to do that while also managing risk.
1 Acciavatti, Peter D., Tony Linares, Nelson Jantzen, CFA, Rahul Sharma, and Chuanxin Li. “High Yield Market Monitor.” J.P. Morgan, North American High Yield and Leveraged Loan Research. April 1, 2014, p. 10.
This article was written by Heather Rupp, CFA, Director of Research for Peritus Asset Management, the sub-advisor to the AdvisorShares Peritus High Yield ETF (HYLD).