Gain High Yield Exposure While Mitigating Downside Risk With DFHY

While high yield fixed income is on track to be a good performer in 2023, the asset class is not without (increasing) risk. Yields for so-called “junk bonds,” as measured by the ICE BofA US High Yield Index, are at 8.65% as of February 22, up from 5.58% from a year prior.

And yet, defaults within high yield bonds are inching up. Fitch Ratings recently announced that it’s forecasting a high yield default rate of 3% to 3.5% in 2023 for the U.S., up from its previous forecast of 2.5% to 3.5%. This increase in expected defaults reflects “growing macroeconomic headwinds that include our projection of a U.S. recession in mid-2023 and only 0.2% GDP growth for the year.”

“Rising interest rates, lingering inflation, tightening credit markets and slower economic growth represent key macro credit concerns that contributed to our call to tighten the range on the higher side,” said Fitch senior director Eric Rosenthal.

S&P also expects a rise in defaults. The ratings agency predicted that the default rate will rise to 3.75% by September, up from the current rate of around 1.7%. Nicole Serino, associate director at S&P Global credit markets and insights, is quoted in Barron’s as saying that companies will “find it hard to pass through their input costs, and consumers are going to continue to struggle with elevated inflation levels.”

So, with yields for junk bonds up while the risk of defaults has also ticked up, fixed income investors looking to add high yield debt to their portfolios will want to mitigate their downside exposure. That’s where the Donoghue Forlines Tactical High Yield ETF (DFHY) can come in handy.

DFHY seeks to participate in the high yield bond market, which offers generally high coupon rates to potentially provide a high level of current income. It does this by seeking to provide investment results that correspond to the performance of the FCF Tactical High Yield Index.

The fund aims to capture most of the upside and avoid the majority of the downside of the high yield asset class during a full credit market cycle. It uses defensive tactical indicators to mitigate downside volatility and preserve capital by shifting primarily towards intermediate-term Treasury exposure during market declines.

For more news, information, and analysis, visit the Free Cash Flow Channel.