Fixed-income investors should consider the benefits of an actively managed ETF approach to high yield bonds as a way to help enhance their bond portfolios.
On the recent webcast (available On Demand for CE Credit), Everything You Need to Know About High Yield Bonds in Today’s Market, Michael DePalma, CEO and Senior Portfolio Manager at Phase Capital, listed off a number of reasons why fixed-income investors should consider an active high-yield strategy, including high current income, low correlations to other asset classes, attractive risk-return profile, limited sensitivity to interest rates and the potential for added value. Michael Venuto, Chief Investment Officer of Toroso Asset Management, also added that “active allows high yield to be a strategic investment.”
Specifically, high-yield bonds, like their names suggest, provide opportunities for enhanced yields. Since 1994, the high yield bond market has exhibited an average spread of 509 basis points above Treasuries.
High-yield bonds may offer diversification benefits as the category has exhibited low correlation to other fixed-income segments and stocks. High-yield bonds showed a 0.58 correlation to large-cap stocks, 0.29 correlation to Aggregate Bonds, 0.34 correlation to municipal bonds, 0.06 correlation to U.S. Treasuries and 0.04 correlation to gold.
In a rising rate environment, with the Federal Reserve eyeing a tighter monetary policy and interest rate normalization, high-yield bonds may outperform. High-yield bonds have historically exhibited a lower sensitivity to interest rate changes. During periods of rising rates, high-yield assets have returned a mean 4.23%, compared to the -1.22% decline in investment-grade debt and -2.46% drawdown for U.S. Treasuries.
Investors may also look to an actively managed strategy as passive strategies have done poorly in less efficient markets, whereas active managers are capable of quickly adapting to sudden market changes, according to DePalma.
Specifically, DePalma pointed to the changing macroeconomic and financial conditions in the market cycle. The economy is past the expansionary period and is in the moderation phase that precedes the contraction phase of the traditional market cycle. During this moderation and contraction period, corporate loans have traditionally outperformed while lower quality speculative-grade debt underperformed, which is a stark contrast to yesteryear during the expansionary and recovery phase of the market cycle.