Tag Archives: hyld

Macro Themes And The Implications: Time To Pay Attention To U.S. High Yield Bonds

By Dr. Chenjiazi Zhong Key Macro Themes and the Implications Low inflation : Inflation is low but it does not mean inflation is zero. The slow growth in global economy keeps inflation subdued even as CPI slowly rises. Global policy divergence : Fed continues to normalize slowly as other central banks pursue stimulus policies. Investors should expect yields to rise modestly. Supply-side weakness : Across developed countries, the low productivity and growth in labor force will ultimately cap longer-dated yields. Strength in U.S. economy : U.S. economy remains resilient; recession risks are being overpriced for 2016, which indicates a good environment for high yield bond. Gradual recovery in Europe : The expansion in Europe is on track; monetary policy is a key factor that will support EU stocks and credit markets. Japan – beyond Abenomics : The economic risk in Japan is becoming more binary; the asset returns will be more geared to fiscal response. Emerging markets rebalancing : The stats of emerging markets implies that the environment is stabilizing and the valuations are undemanding. The short-term risks exist but investors can expect the conditions will improve in 2016. China in transition : That China is shifting from resources to services will continue to weigh on global trade. U.S. High Yield Bonds In an environment of full valuation, fragile investor sentiment, favorable relative valuations of credit over equity, slow but positive growth with limited recession risk that is priced in, high yield credit that offers equity-like returns is an attractive proxy for stocks. U.S. High yield credit spreads widened the most since 2011. U.S. high yield bonds offer lower volatility than equities due to their coupon income. In down markets, a larger coupon for high yield bonds helps to offset market declines; in up markets, high yield bonds usually correlate to rising equities. Moreover, high yield bonds are generally not impacted by modest rise in interest rates; spreads are more a reflection of market expectations for future default rates rather than expectations for higher interest rates. Furthermore, high yield bonds managers charge lower fees as compared to the hedge funds specializing in distressed debt. Despite U.S. high yield bonds offer equity-like return, investors need to adjust or discount the asset class for its potential for downside losses, liquidity constraints, sector risks, and other realities: The high yield bonds market is characterized by asymmetric risk whereby the potential for downside losses outweighs upside capital appreciation. Asymmetric risk exposure is a situation in which the potential gains and losses on an investment are uneven. The high yield bonds are traded over the counter, which highly depends on dealer capital. Additionally, the majority of high yield bonds do not trade on a daily basis, which means there may be a significant difference between trade prices and broker quotes. Independent fundamental analysis is paramount. The market generally anticipates upgrades and downgrades long before the actual rating changes. The difficulty in estimating defaults is defaults are not correlated to the severity of recessions. For instance, the 2008-2009 period was not the worst for defaults but it was dramatic to other asset classes. The key to long-term success in investing in high yield bonds is managing credit risk, avoiding dangerous concentrations and minimizing defaults in the portfolio. In addition, in harvesting carry across extended credit markets, security selectivity becomes even more crucial . Investors shall stay engaged, know the securities; do not be afraid of sentiment. The increase in volatility is creating numerous opportunities for fundamental, bottom-up investors. With more movement in the market, there is a wider range of possible outcomes, some of them lost, but some of them gained. While the downside increases, so does the upside. As with any investment, the riskier it is, the greater the possible return is. Furthermore, a contrarian stance, backed by a comprehensive understanding of companies’ long-term fundamental prospects, will provide a strong foundation to withstand as well as profit from a world of rising volatility.

Alpha Generation For Active Managers

We are currently seeing a lot of attractive opportunities in the high-yield market. They don’t really seem to reflect the true opportunity we are seeing in the market. This is where active management is especially important. By: Heather Rupp, CFA, Director of Research for Peritus Asset Management, the sub-advisory firm of the AdvisorShares Peritus High Yield ETF (NYSEARCA: HYLD ) As we discussed in our recent blog (see ” The Opportunity in Volatility “), we are currently seeing a lot of attractive opportunities in the high-yield market discounts and yields that we haven’t seen in some time. And while we have seen the yields in the high-yield indexes and the products that track them increase over the last six months, they don’t really seem to reflect the true opportunity we are seeing in the market. For instance, the yield-to-worst on the Barclays High Yield index is 6.46% 1 , and many of the large index-based products are reporting yields around 6%. While this is certainly better than the index yields of sub-5% that we saw in mid-2014, this level at face value isn’t something we’d be really excited about. So then why are we excited about today’s high-yield market and see this as an attractive entry point? Digging into what is held in the index, we see 33% of the issuers in index trade at a yield-to-worst of 5% or under 2 . The large majority of this low-yielding contingency consists of quasi-investment grade bonds, rated Ba1 to Ba3. Not only does this group provide a low starting yield, but would expose investors to more interest rate sensitivity if and when we do eventually see rates rise (given the lower starting yields). On the flip side, 30% of the issuers in that index are trading at a yield-to-worst of 7.5% and above 2 , which in today’s low-yielding environment, with the 5-year Treasury around 1.2%, seems pretty decent. This group is certainly not dominated by the lowest rated of names, and within this group, we are seeing an eclectic mix of businesses and industries. Yes, there are segments of this group that we are not interested in. For instance, we have been outspoken on our concerns for many of the domestic shale producers in the energy space, given that we saw these as unsustainable business models when oil was near $100, and those issues will certainly be acerbated with oil at $50 as cash to mitigate the rapid well decline rates and to service heavy debt loads quickly runs out. But there are also what we see as great mix of business and industries that we would be interested in committing money to, especially at these levels. This is where active management is especially important. We view active management as about managing risk and finding value. Yes, it is about managing credit risk (determining the underlying credit fundamentals and prospects of each investment you make – basically doing the fundamental analysis to justify an investment in a given security) and managing call risk (paying attention to the price you are paying for a security relative to the next call price to address the issue of negative convexity), as we have written about at length before. Yet, one risk factor that is often overlooked is that of purchase price. By this, we mean buying at an attractive price. While it isn’t very intuitive, because it often seems that the risk is less when markets are on a roll and moving up, but really the lower the price you pay for a security, the lower the risk (you have less to lose because you put less in up front). Jumping in on the popular trade certainly doesn’t reduce your risk profile. Rather, you want to purchase a security for a price less than you think it is worth. As we look at much of the secondary high-yield market, especially many of the B and CCC names that have been out of favor over the past several months, we are seeing a more attractive buy-in for selective, active managers, which we believe lowers our risk. And there remains a segment of “high yield” that isn’t at prices or yields that we would consider attractive, and we will avoid investments in those securities. Alpha generation involves buying what we see as undervalued securities with the goal of generating excess yield and/or potential capital gains. Today, we are seeing this opportunity for potential alpha generation for active managers. 1 Barclays Capital US High Yield Index yield to worst as of 1/30/15. Formerly the Lehman Brothers US High Yield Index, this is an unmanaged index considered representative of the universe of US fixed rate, non-investment grade debt. 2 Based on our analysis of the Barclays Capital High Yield index constituents as of 1/30/15. Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) Business relationship disclosure: AdvisorShares is an SEC registered RIA, which advises to actively managed exchange traded funds (Active ETFs). This article was written by Heather Rupp, CFA, Director of Research of Peritus, the portfolio manager of the AdvisorShares Peritus High Yield ETF (HYLD). We did not receive compensation for this article, and we have no business relationship with any company whose stock is mentioned in this article. This information should not be taken as a solicitation to buy or sell any securities, including AdvisorShares Active ETFs, this information is provided for educational purposes only. Additional disclosure: To the extent that this content includes references to securities, those references do not constitute an offer or solicitation to buy, sell or hold such security. AdvisorShares is a sponsor of actively managed exchange-traded funds (ETFs) and holds positions in all of its ETFs. This document should not be considered investment advice and the information contain within should not be relied upon in assessing whether or not to invest in any products mentioned. Investment in securities carries a high degree of risk which may result in investors losing all of their invested capital. Please keep in mind that a company’s past financial performance, including the performance of its share price, does not guarantee future results. To learn more about the risks with actively managed ETFs visit our website AdvisorShares.com .