Default Fears Abate, Investors Return to Non-Investment Grade Bond Funds

By Tom Lydon, ETF Trends

Without the feared and widespread energy sector defaults, fixed-income investors have been pouring back into high-yield speculative-grade debt and junk bond funds.

According to Bank of America Merrill Lynch, junk bond funds have attracted a net $12.2 billion so far this year, reports Jeff Cox for CNBC. Additionally, Morningstar data showed that the previous six weeks before the most recent week had the largest level of inflows to junk funds since the financial crisis.

Moreover, high-yield bond funds have been outperforming.

Supporting the return to junk bonds after the sell-off over the second half last year, the perceived default risk in energy-related junk debt, which make up about 15% of the high-yield market, never materialized. Through March 23, 2015, only one company with publicly traded debt, Quicksilver Resources, filed for bankruptcy, ValueWalk reports.

According to Moody’s, default risk was only at 1.7%, compared to 17.3% in march 2009, with 184 issuers on the junk list, compared to 290 issuers in 2009.

Consequently, investors are now focusing back on growth and the U.S. economy.

“We continue to expect the high-yield market to outperform investment-grade for the remainder of the year,” David Sekera, corporate bond strategist at Morningstar, said. “Based on our expectation that GDP growth in 2015 will range between 2.0 percent and 2.5 percent, macroeconomic fundamentals in the United States should be generally supportive of credit risk and dampen defaults through the rest of the year. The combination of modest economic growth and low interest rates should keep default rates from rising meaningfully this year.”

Some others have also warned of higher default rates later on, but risks are manageable. According to Dan Roberts, Head of Global Fixed Income at MacKay Shields, believes default rates will rise to 2.75% this year, with highly levered energy production operators in shale formations most likely at risk in the event of continued oil price pressures.

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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 5.58% (as of 31 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.