Fallen Angels Could Lead Second-Half Bond Rebound | ETF Trends

Amid a series of interest rate hikes by the Federal Reserve in the first half of this year, fixed income exchange traded funds languished, providing investors with no protection from slumping equity prices.

The Fed continued its rate hiking, inflation fighting campaign on Wednesday, raising interest rates by 75 basis points. With inflation stubbornly high, that move was largely forecast, prompting some market observers to speculate that various corners of the bond market are offering opportunity in the second half of 2022.

Those opportunities include fallen angels — a subsector of the junk bond space accessible via the VanEck Vectors Fallen Angel High Yield Bond ETF (NASDAQ: ANGL). Fallen angels are bonds born with investment-grade ratings that are later downgraded to junk status. That’s a sign of higher quality relative to traditional high yield debt, and ANGL’s quality leanings are something for investors to consider.

“Higher quality within fallen angels significantly outperformed the lower rating buckets for Q2. The higher quality within fallen angels helped push them closer to broad high yield as broad high yield has lower allocation to BB (53%) and higher allocation to the B (36%) and CCC (10%) rated buckets,” noted Nicolas Fonseca, VanEck associate product manager.

Following a dismal first half, there could be value among fallen angels, and some investors may already be capitalizing on that notion as these bonds topped standard junk debt in June.

“The first half of 2022 has seen the worst start for fallen angels in years, and, unlike a few months ago, spread levels are now much closer to long-term averages. From that perspective, there could be opportunities to add exposure at more attractive levels,” added Fonseca.

For investors new to ANGL and fallen angels, it pays to note that one of the reasons this asset class can occasionally struggle is the departure of some bonds. That is to say that fallen angels are more likely to regain investment-grade status than traditional junk bonds are to gain that promotion. However, ANGL has a lengthy history of being home to fallen angels that eventually make their way back to investment-grade, providing long-term return benefits. Conversely, some new fallen angels struggle over the near term due to loss of investment-grade ratings.

Bottom line: ANGL is a higher quality avenue to junk bonds, making the exchange traded funds a relevant consideration for fixed income investors today.

“Most sell side shops prefer higher-quality balance sheets as economic growth continues to slow down with BB rated issuers having stronger ability to adapt to the transition to a later stage of the business cycle. We believe the higher quality tilt of fallen angels may provide a strong cushion against spread widening and volatility if growth concerns continue to grow,” concluded Fonseca.

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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.