Amid a spate of credit downgrades, 2020 is shaping to be a record year – and not necessarily the good kind – for fallen angel bonds, but that doesn’t mean income investors should avoid the VanEck Vectors Fallen Angel High Yield Bond ETF (NASDAQ: ANGL).
ANGL seeks to replicate as closely as possible the price and yield performance of the ICE BofAML US Fallen Angel High Yield Index. The index is comprised of below investment grade corporate bonds denominated in U.S. dollars that were rated investment grade at the time of issuance.
ANGL essentially focuses on debt that has fallen out of investment-grade favor and is now repurposed for high yield returns with the downgraded-to-junk status.
“We had expected an uptick in fallen angel high yield bond volume compared to the trickle of recent years, driven by company-specific credit events from within the outsized BBB rated universe,” said VanEck in a recent note. “However, systemic risk has increased significantly in recent weeks and a broader wave of downgrades now appears inevitable. Rating agencies have already started to act, resulting in approximately $90 billion of index eligible fallen angels year to date. This already puts 2020 nearly on par with 2005 as the highest calendar year ever for fallen angel volume.”
So Many Fallen ANGLs
The $1.5 billion ANGL currently holds 221 fallen angels and it’s possible that number will increase as more bonds leave the investment-grade territory.
“With the significant but still unknown impact to growth from the pandemic, as well as the potentially prolonged effect on the energy sector from the Saudi/Russia oil price war, our base case is for $250 to $300 billion of fallen angel volume this year measured at current market value, which is $300 to $360 billion in terms of paramount,” according to VanEck. “This includes the approximately $60 billion that occurred in the last week of March alone but has not yet entered the index.”
Fallen angel bonds offer a potential value play as the debt securities typically experience a steep sell-off from institutional forced selling prior to being added to the fallen angels’ group. Looking ahead sector themes can help support potential price appreciation. Additionally, the groups’ higher average credit quality can help diminish market volatility.
“For fallen angel investors, the combination of a significant increase in volume and lower bond prices may present an extremely attractive opportunity,” according to VanEck. “Strong absolute returns and significant outperformance relative to broad high yield strategies have historically followed periods of increased fallen angel volume because a fallen angel strategy buys oversold bonds and goes overweight sectors where fundamentals have bottomed out.”
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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.