While fixed-income assets dipped in response to the rise in rates over the second quarter, high-yield bonds and related exchange traded funds have been able to weather the storm.
Speculative-grade bonds have staged a comeback in 2015 after suffering a huge blow in response to the oil price plunge and concerns to junk-rated shale companies last year, writes Morningstar strategist John Gabriel.
Supporting the gains in the high-yield bond space, the more attractive spreads are bringing back investors. In June 2014, before the oil-price swoon, the BofAML HY Master option-adjusted credit spread was 3.35%. The spread, though, rose to 5.08% ate the start of the year.
“High-yield credit spreads actually contracted over the first half of the year,” Gabriel said. “This spread compression helped drive the bank-loan and high-yield bond categories’ claim to the top two spots among all fixed-income categories at the midpoint of 2015, with category average returns of 2.5% and 2.4%, respectively.”
The actively managed SPDR Blackstone/GSO Senior Loan ETF (NYSEArca: SRLN) gained 2.7% year-to-date while the First Trust Senior Loan ETF (NasdaqGM: FTSL) increased 2.9%. Meanwhile, the PowerShares Senior Loan Portfolio (NYSEArca: BKLN), the largest senior bank loan-related ETF, was up 1.0%.
Senior bank loans are a type of debt financing obligation issued by a bank. The loan is considered senior to all other claims against the borrower, so it receives priority in the event of a bankruptcy. Additionally, since the senior loans have rates that adjust periodically, the floating-rate loans offer investors an alternative method of earning yields with little or no interest-rate risk, which may have also helped attract more investors during a period of increased interest rate uncertainty. [Rising Rates Bring Bank Loan ETFs Back Into The Spotlight]
Additionally, the SPDR Barclays High Yield Bond ETF (NYSEArca: JNK) was up 2.1% and iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG) was 1.3% higher so far this year. [Junk Bond ETFs: Corporate America Better Positioned to Weather Storms]
However, there is growing concern that these fixed-income ETFs could experience liquidity problems in a rising rate environment. [Junk Bond ETFs Attract More Inflows Despite Potential Risks]
“Given the significant growth of these comparatively illiquid categories over the past several years, market participants have raised concerns over a potential liquidity crunch if investors rush to redeem high-yield fund assets en masse as rates march higher,” Gabriel warned. “It remains to be seen if the market will be able to unwind in an orderly fashion if there is in fact a rush to unload high-yield credits.”
For more information on high-yield debt, visit our high-yield bonds category.
Max Chen contributed to this article.