As of the end of April, the trailing 12-month default in the domestic junk bond market was 1.9%. That’s slightly above the 1.8% pace from March. Those aren’t alarming percentages. However, amid speculation that the U.S. economy could slow in the back half of the year, some junk bond market observers believe that the pace of defaults will rise later in 2023.
On the other hand, some income-hungry investors remain enthusiastic about high yield corporate debt. With the widely observed Markit iBoxx USD Liquid High Yield Index sporting a 30-day SEC yield of 7.85%, it’s easy to see why.
Market participants that want to harness the potency of junk bond income may want to consider active management. For one, the number of potential defaulters is on the rise.
“Our Top Market Concern Bond list, which consists of HY issuers we expect will default within two years, has grown modestly to $53.3 billion from $50.6 billion in April. This is the largest total since May 2020 and is up substantially from $17.1 billion one year earlier,” noted Fitch Ratings.
Other Points to Ponder
Active fund managers’ ability to consistently monitor credit quality and interest rate risk is another benefit of the space.
There’s no denying the income allure of longer-dated high yield corporate debt or those bonds in the speculative CCC group. However, the latter are there for a reason: elevated default risk. Additionally, while longer durations mean bigger yields, that trait also means more negative correlation to rising Treasury yields.
Investors looking to leverage the potential portfolio diversification of junk bonds within their portfolios may want to consider intermediate-term funds. Those bonds, which have maturities of two to 10 years, correlate less to equities than short- or long-term debt. Overall, the current environment and the future one could be conducive to pairing active management with junk bonds.
“Our Overall Market Concern Bond List grew by 37.5% year-over-year to $190.4 billion at the end of April, comprising 14.4% of the market based on par value. However, April’s total was down from $199 billion at the end of March, due to a decline in the Other Market At-Risk Bonds list to $84.2 billion from $96.9 billion during the same period. This category is comprised of issuers exhibiting weak credit profiles but not close to default,” concluded Fitch.
The T. Rowe Price U.S. High Yield ETF (THYF) is an actively managed high yield bond ETF and sports a 30-day SEC yield of 8.83%, as of April 30.
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.
