The weekly fund flows are key to understanding where investors are putting their money. Market outlooks, macroeconomic commentaries and stock picks are helpful too, but the value of fund flows is that it directly shows not what investors are thinking, but what they are actually doing. There is no misleading or reading in between lines; the data speaks for itself.
Over the past month, high yield funds saw outflows totaling $9 billion, while leveraged loans remained resilient. The key driver of the turmoil is the floating coupon paid by leveraged loans, which protects the loans from the duration risk that bonds face due to their fixed coupons.
Flows continue strong
The week ended June 21st was a volatile one for fixed income markets due to the anticipation of the FOMC1 meeting and the post-meeting remarks by Fed Chairman Ben Bernanke. Amidst the chaos, leveraged loan flows continued strong and posted $1.4 billion in inflows, a similarly strong figure as the one a week earlier.
Several weeks ago we had commented on how leveraged loans had shown a strong resilience versus high yield bonds. We made the point that high yield was a risky position to hold; here we are, four weeks later, with high yield down 5% and leveraged loans down only 2%. As a point of reference, the equities market is down 5%, though equities will rebound more than high yield bonds.
This was evident by comparing the diminishing fund flows into high yield funds and the continued strong inflows into leveraged loans. Despite the drop in leveraged loan issuance, the market held up nicely.
Now that the 10-year Treasury popped from 2.2% to 2.5% over the weekend, it is highly likely to reach 3% by end of year, which means high yield will continue to drop and interest income in leveraged loans will continue to rise. It is likely that investors will digest Bernanke’s comments as bullish on the market outlook and not as the initial bearish reaction when the tapering timeline was clearly laid out.
In the short term, high yield is likely to continue being an unfriendly neighborhood while leveraged loans will be friendlier. Investors that do not feel comfortable with the equities volatility may want to consider leveraged loans while the market picks up; the downside is likely limited and the interest income will only increase towards the end of the year.
© 2013 Market Realist, Inc.