The iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG) and the SPDR Barclays High Yield Bond ETF (NYSEArca: JNK), the two largest high-yield corporate bond exchange traded funds, are down an average of about 11% this year as controversy for the junk bond space has been easy to come by.
However, junk bonds could improve next year, according to some analysts. Still, a rising number of defaults by energy sector issuers are troubling some junk bond market participants. “A 4.5% 2016 high yield default rate equates to $66 billion of defaults and would be the fourth highest default total since 2000. This would be close to the $78 billion amassed in 2001 but well below the record $119 billion posted in 2009,” said Fitch Ratings in a note posted by Amey Stone of Barron’s.
The popular high-yield ETFs include significant exposure to lower quality speculative-grade debt that are at greater risk to default. For instance, JNK has a 13.8% tilt toward CCC or lower-rated debt and HYG has 8.8% in CCC-rated securities. [Bond ETF Outflows Picking Up]
“We carry a state of tempered optimism toward high yield heading into 2016. With a near certainty the Fed commences liftoff in mid-December there is an underlying nervousness about the uncertain consequences for currencies, treasury yields, equities, and capital markets,” said JPMorgan in a note posted by Amey Stone of Barron’s.
With its emphasis on higher quality issues, the The PowerShares Fundamental High Yield Corporate Bond ETF (NYSEArca: PHB), which tracks the RAFI Bonds US High Yield 1-10 Index, is another junk bond ETF for investors to consider.
PHB leans toward slightly higher quality corporate debt securities than its major competitors. The underlying Research Affiliates index implements a fundamental or smart-beta indexing methodology that focuses on four factors, including gross sales, gross dividends, cash flow and book value of assets for each issuer.
“We are forecasting spreads to tighten 35bp to 650bp by yearend 2016, absorbing only a portion of the expected 80bp rise in 5-year Treasury yields and leading to a year-end YTW of 8.90%. This equates to a below coupon full-year return of 5-6% for 2016,” said JPMorgan in the note posted by Barron’s.
SPDR Barclays High Yield Bond ETF
Tom Lydon’s clients own shares of HYG and JNK.