US junk bond returns stand out among global debt offerings
Default rates remain low as weaker oil prices and jobs growth boost consumer spending
Global investors last month pulled out more than a quarter of their investments made earlier this year in US junk bonds and flocked to European bonds, yet maybe it's time for a rethink.
High-yield, or "junk", bonds are those issued by companies of relatively low credit quality. Investors have earlier been shorting these bonds in the US based on expectations that they would lose their appeal in a rate hike cycle as better-quality bonds become more attractive.
The recent shift in global capital flows has helped widen the gap between returns from the US and European high yield bonds, with the additional yield offered by the former hovering around 64 basis points, not far from the highest levels in the past 15 years, according to a report by Atish Suchak, a fixed-income investment manager at Baring Asset Management.
US high-yield bond funds have seen a combined net capital inflow of US$8.09 billion in the year to May 6, accounting for nearly half of the inflows to global high-yield bond funds, according to a report by Jefferies.
However, from April, investors have drawn a total of US$2.45 billion from the US high-yield space while during the same period, European high-yield bonds recorded a net inflow of US$1.21 billion, the report shows.
Another noticeable number is the yield-to-worst, which measures the lowest yield available without the issuer defaulting. That now stands at 5.8 per cent for US high-yield bonds, compared with only 4 per cent for their European counterparts, says Suchak.
According to Suchak, the default rates for US junk bonds will remain low as weaker oil prices and job growth acceleration should combine to increase consumer spending and support the US economy.
"We believe there may be overlooked investment opportunities. Spreads on energy high-yield bonds are much higher than the rest of the high-yield universe and it is our belief that implied default rates priced in by the market, which stand at between 40 and 50 per cent, are overly pessimistic."
