Junk Bond ETFs: Not so Bad When Rates Rise?

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 by assets, and other high-yield corporate bond ETFs are often thought of as among the more vulnerable asset classes to rising interest rates.

Historical data paints a different picture. Due to junk bond’s more “equity-like” nature compared to Treasuries or investment-grade debt, high-yield bonds could strengthen on the higher growth environment in the U.S., especially with rebounding oil prices that would further diminish credit risk for energy-related speculative-grade debt, the largest sector that makes up about 15% of high-yield market.

While interest rates are rising, rates are still hovering near historical lows, which will help make it easier for companies to repay debt or reduce default risks. More quick-witted corporate treasurers have already locked into low, long-term loans, further mitigating default risks.

“Duration measures bonds’ direct exposure to interest rates.  For spread products such as corporate bonds, their total return is also sensitive to changes in credit spread.  Empirically, corporate bonds’ total returns tend to be less sensitive to interest rates compared with what is indicated by their duration measure, due to the negative correlation between interest rate and credit spread changes,” according to S&P Dow Jones Indices.