In a rising interest rate environment, investors tend to move toward securities that can secure their returns. Leveraged loans, being floating rate, allow an investor to lock in returns at least to a certain extent, as they offer a yield over and above a floating benchmark, such as LIBOR. On the contrary, high yield bonds are the ones which are strongly affected by any changes in the interest rate, and so, do not limit the loss to any extent.
The investment environment hasn’t been that favorable over the past year with investors looking for safer avenues to park their funds. The investor’s appetite for fixed-rate bonds is declining steadily. This is because with a rise in interest rates, fixed rate bonds’ relative values decline.
Take a look at the yields from these two categories of ETFs:
Although high yield bonds have historically fetched good returns for their investors, with their one-year and three-year returns being around 6% and 7.5%, respectively, yields seem to show a declining trend. Greater evidence for shift in investor preference is the huge amount of outflow from the high yield bond ETF market recently.
The leveraged loan ETF SNLN, on the other hand, has outperformed high yield ETFs in terms of current YTD returns. It currently offers a 0.97% YTD return, vis-à-vis a mere 0.40% is offered by HYG, and a 0.57% is offered by JNK.
The next article in this series shows how, with investors trying to protect against declines in bonds, funds are visibly moving away from high yield bonds while the leveraged loan inflows remain steady.