While junk bond exchange traded funds may now offer attractive high yields after the recent selling pressure, potential investors should still consider the risks.
Over the past three months, the iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG) dipped 2.5%, SPDR Barclays High Yield Bond ETF (NYSEArca: JNK) fell 3.0%, PowerShares Fundamental High Yield Corporate Bond ETF (NYSEArca: PHB) dropped 2.2% and AdvisorShares Peritus High Yield ETF (NYSEArca: HYLD) decreased 4.2%.
However, the pullback has helped push yields higher. For instance, HYG has a 5.89% 30-day SEC yield, JNK has a 6.2% 30-day SEC yield, PHB has a 4.55% 30-day SEC yield and HYLD has a 10.05% 30-day SEC yield.
Meanwhile, the average yield on the Bank of America Merrill Lynch’s High Yield index has climbed back to 7%, reports Robin Wigglesworth for the Financial Times.
Dragging on the speculative-grade bond space, low-rated energy bonds have been dropping on default fears in light of the falling oil prices. The Royal Bank of Scotland projects that U.S. default rates could double from about 2% to 4% by the end of the year. UBS has warned that distress in energy bonds can spread to other areas of the high-yield market as soem companies are exposed to the resulting investment decline and job losses.
The junk bond ETFs also include significant tilt toward the energy sector. HYG holds 13.5% in energy bond issuers, PHB has 14.6% energy and HYLD includes about 10% in energy-related bonds.
Additionally, Moody’s Covenant Quality Index, which measures the strength of legal protection in junk bonds, dipped in June to its weakest level since the index was created in 2011. With the Federal Reserve set to hike interest rates, junk bonds could also come under pressure.
Beat Wittmann, a partner at Porta Advisors, has warned that junk bonds may even be a value value trap, arguing that there’s “no value left” in the “totally illiquid” high-yield market, reports Kalyeena Makortoff for CNBC. [Reviewing the Liquidity of Junk Bond ETFs]
ETF investors, for the most part, seem to agree as many are pulling out of the high-yield bond market. Over the past week, HYG experienced $786.6 million in net outflows and JNK saw $205.6 million in outflows, according to ETF.com.
iShares iBoxx $ High Yield Corporate Bond ETF
For more information on speculative-grade debt, visit our junk bonds category.
Max Chen contributed to this article.
Full disclosure: Tom Lydon’s clients own shares of HYG and JNK.