High-Yield Bond Funds Generate Income

By Katie Kuehner-Hebert

In a low-interest-rate environment, high-yield bonds are living up to their names, generating substantial interest income, says Mark Hudoff, portfolio manager of Hotchkis & Wiley High Yield in Corona del Mar, Calif. Even after defaults, investors still earned above-market returns that beat investment grade, he said. Indeed, his fund has had a trailing 12-month yield of 5.4% over the past year, according to Morningstar.

Currently, he says, high-yield bond funds are earning roughly 4 percentage points above Treasuries, and defaults are just above 1%. While high yield defaults are on the rise--estimates call for a rate of 1.5% to 2% before the end of 2015--they are still well below the long-term average of about 4.4%.

All of that makes high-yield an attractive option compared to investment-grade bonds. Even if the high-yield funds take some defaults, say for 50 basis points (or one half of a percent), they still can produce as much as three times the yield of investment-grade bonds.

Income, while attractive, isn’t the only reason to consider high-yield bonds. They also have a very low correlation with Treasuries – an average of 0.4. Bonds rated single-B have an even weaker link to the Treasury market. Compare that to an almost one-to-one correlation between investment grade bonds and Treasuries, Hudoff says.

That being said, says Hudoff, “High-yield bonds aren’t 100% immune from interest-rate risk.” He expects investors to pull back from the category a bit when the economy improves and the Fed starts raising interest rates.

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AdvisorShares Peritus High Yield (HYLD) is a component of the D2 Capital Management Multi-Asset Income Portfolio. Current yield on the portfolio is 5.49% (as of 16 March 2014).

Disclosure:  I own the D2 Capital Management Multi-Asset Income Portfolio

The views expressed here are that of myself or the cited individual or firm and do not constitute a recommendation, solicitation, or offer by myself, D2 Capital Management, LLC or its affiliates to buy or sell any securities, futures, options or other financial instruments or provide any investment advice or service. D2, its clients, and its employees may or may not own any of the securities (or their derivatives) mentioned in this article.