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Must-know: This week high-yield bonds didn't follow stock returns

Part 4
Must-know: This week high-yield bonds didn't follow stock returns (Part 4 of 7)

Why investors pulled $1.6 billion out of junk bond funds

Junk bond funds

Yields on high-yield (HYG) bonds as measured by the BofA Merrill Lynch U.S. High Yield Master II Effective Yield, increased by 17 basis points over the week to come in at 5.55% on July 18. This is the highest level since April 3, 2014. Yields had hit a record low on June 23, falling to 5.16%. Yields are down by 38 basis points this year.

Yields spreads between high-yield debt (JNK) and Treasuries also increased over the week. The BofA Merrill Lynch U.S. High Yield Master II Option-Adjusted Spread widened by 17 basis points over the week to come in at 3.78% on July 18. A widening spread indicates higher risk perceptions associated with high-yield debt securities.

Part 4Enlarge Graph

U.S. high-yield bond funds see massive investor outflows

Investor flows into high-yield (HYG) mutual funds reversed trend in the week ending July 18. High-yield (JNK) mutual funds recorded net outflows of $1.68 billion in the week, compared to a net inflow of $107 million in the week ending July 11. Last week’s outflow was the largest since August, 2013. Net inflows for 2014 year-to-date (or YTD) into high-yield mutual funds are estimated at $5 billion (Source: Lipper).

Investors in high-yield bond funds were spooked by increasing concerns raised by policymakers over signs of froth in speculative bonds and leveraged loans. On July 16, Fed Chair Janet Yellen spoke of heightened risks in the leveraged loans and speculative-grade bonds segments at her semi-annual congressional testimony. She said that valuations appeared stretched and underwriting standards had fallen. She said that the Fed and other regulatory agencies would be keeping a close eye on developments in this area. This factor affected investor flows as well.

The crash of the Malaysian airliner over war-torn Ukraine last Thursday, also increased risk perceptions among market participants, causing a flight to safer investment-grade bonds. Investment-grade corporate bond mutual funds recorded positive flows of $1.6 billion last week (Source: Lipper).

Returns on high-yield debt in 2014

High-yield debt returns, as measured by the BofA Merrill Lynch U.S. High Yield Master II Total Return Index Value, were negative in the week ending July 18, coming in at -0.50%. However, YTD returns are positive at 4.98%.

The prices of major exchange-traded funds (or ETFs) investing in high-yield bond funds fell over the week. Prices of the iShares iBoxx $ High Yield Corporate Bond ETF (HYG) and the SPDR Barclays Capital High Yield Bond ETF (JNK) fell by 0.64% and 0.60%, respectively, over the week.

In comparison, the price of the Vanguard S&P 500 ETF (VOO), which tracks the S&P 500 Index, increased by 0.57% in the week ending July 18. The price of the iShares iBoxx $ Investment Grade Corporate Bond Fund (LQD), which tracks investment-grade corporate bonds (BND), increased by 0.16% over the week.

In the next two sections, we’ll analyze primary and secondary market trends in the U.S. leveraged loans market. Please continue reading the next sections in this series.

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