Amid falling oil prices and rising interest rates, high-yield corporate bonds were challenged in 2018. To start the new year, junk bonds and the related exchange traded funds are bouncing back, but investors may want to take steps to ensure they are focusing on quality in the high-yield bond space.
The WisdomTree Fundamental US Short-Term High Yield Corporate Bond (NasdaqGM: SFHY), which turns three years old in April, can help with that objective.
SFHY seeks to track the price and yield performance of the WisdomTree Fundamental U.S. Short-term High Yield Corporate Bond Index. Under normal circumstances, at least 80% of the fund’s total assets will be invested in component securities of the index and investments that have economic characteristics that are substantially identical to the economic characteristics of such component securities. The index is designed to capture the performance of selected issuers in the short-term U.S. non-investment-grade corporate bond market that are deemed to have favorable fundamental and income characteristics.
“For 2019, we envision HY outperforming investment-grade (IG) bonds within the credit spectrum, but there seems to be little doubt that investors will need to be more discerning when it comes to their holdings,” said WisdomTree in a recent note. “Against this backdrop, we feel investors should consider our fundamental approaches to U.S. corporate bond investing, where we look toward the balance sheet in order to potentially improve credit quality.”
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SFHY ETF Details
As its name indicates, SFHY is a short-term junk bond ETF. The fund’s effective duration of 2.21 years is well below what is found on traditional high-yield bond ETFs. Although SFHY lowers duration risk, that does not mean it reduces investors’ income profiles as highlighted by a 30-day SEC yield of 6.24%.
While the fund’s yield is not far below those available on longer duration junk bond ETFs, SFHY’s methodology takes steps to ensure a quality tilt, including excluding negative cash flow issuers.
“Our research found that filtering out private issuers and issuers whose free cash flow (FCF) is negative can provide exposure to a higher-quality portfolio with better risk-adjusted returns,” according to WisdomTree. “In addition, the index is overweight in issuers with a higher risk-adjusted spread to Treasuries as a tilt toward income needs. Impact: SFHY had a single default—4 basis points (bps) in market-value terms—in 2018 compared with roughly 30 defaults in the HY broad market.”
SFHY is up 2.33% year-to-date.
For more trends in fixed income, visit the Fixed Income Channel.