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Weekly performance review: High yield bonds and leveraged loans

Part 5
Weekly performance review: High yield bonds and leveraged loans (Part 5 of 7)

Why the high yield bond fund flows increased by only 2% last week

High yield bond fund flows

As depicted from the chart below, high yield bond (JNK) fund flows were less last week—although still positive. The markets have grown for the fifth week straight, which ended at $573 million total retail cash inflows. The year-to-date inflows stood at $2.5 billion, compared to $281 million over the same period last year.

HY funds flowEnlarge Graph

Despite another week of reasonable inflow, the trailing four-week average slipped to a positive $624 million per week, from a positive $843 million last week. The trailing average was a positive $461 million two weeks ago.

Weekly fund flows are great momentum indicators that can signal changes in investor sentiment. When fund flow increase, it suggests that the institution’s and individual’s investments in the high yield debt have increased. However, when fund flows decreases, the market liquidity reduces as investors and institutions pull out their investments from the asset class. Decrease in the fund flows may lead to higher yields. A higher yield or rate of return is good for investors and bad for issuers since issuers may have to expand the yields to create a customer base for their issues.

The major ETFs tracking the high yield bond market including the iSharesiBoxx $ High Yield Corporate Bond ETF (HYG) posted fund inflows of $34.3 million in comparison to SPDR Barclays Capital High Yield Bond ETF (JNK), which posted an outflow of $51.9 million last week.

HYG is a rule-based index with nearly 900 high yield corporate bonds for sale, whereas, JNK has about 692 non-investment grade high yield bonds, mostly rated Ba1/BB+/BB+ or below. Both the ETFs have top holdings in Sprint Corporation (S) and Hospital Corporation of America (HCA)

Outlook

In the short run, risk-taking investors may continue to bet on the high yield bonds, given the volatility in the U.S. Treasury rates, which was down last week across the mid-term to long-term Treasury curve. Plus, the prevailing tension in the emerging markets particularly Ukraine and Russia, has enforced investors to pull out their investments from the troublesome economy. The situation has created more demand for the home-based investment options, which can offer a similar range of return as of the emerging market (EEM). This is where high yield bonds remain attractive. However, the situation may change with the Ukraine and Russia turmoil cooling off.

In the long-term, the fundamentals are against high yield bonds in general. Plus, the Fed is expected to start increasing interest rates in 2015, which will affect the high yield (HYG) bondholders, as they will be stuck with the fixed interest rates, which may be lower than the market interest rates. The investors could consider the high yield bonds as a part of a well-diversified portfolio.

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