Why Income Investors Should Be Watching High Yield Bond ETFs

The Federal Reserve has mapped out its target for an October deadline to exit the quantitative easing measures that have helped stimulate the stock and bond markets for the last several years. The next step that economists are avidly trying to forecast is the timeline for additional fiscal tightening that could throw a wrench in the complacent market we have become accustomed to.

In recent remarks before Congress, Federal Reserve Chair Janet Yellen opined that “maintaining interest rates at low levels for a long time can incent reach for yield and asset bubbles. We are monitoring this closely.”

Well that’s comforting.

Certainly one of the areas that has been highly sought out in the reach for yield are junk bonds, which have lured many conservative income investors farther down the credit spectrum than they are accustomed to. The low interest rate and below-average default environment has been a recipe for success in high yield bonds for some time now. However, we are starting to see subtle changes in the makeup of this fixed-income market that may point to waning demand and teetering growth.

A quick check of the iShares High Yield Corporate Bond ETF (HYG) shows a rollover in price that has now penetrated the 50-day moving average for the first time in nearly a year. While the decline from the highs has been relatively shallow to-date, this technical breach is something to pay attention to. This is particularly poignant when we are seeing continued strength in major domestic equity indices such as the SPDR S&P 500 ETF (SPY).

hyg

In addition, the high yield bond market is experiencing compressed yields and relatively lackluster year-to-date performance versus other fixed-income alternatives. In fact, HYG isn’t even in the top half of competitive bond sectors so far in 2014.

Ticker Name YTD % Yield %
CWB SPDR Barclays Convertible Securities ETF 9.46 1.64
EMB iShares J.P. Morgan USD Emerging Markets Bond ETF 8.83 4.31
MUB iShares National AMT-Free Muni Bond ETF 6.06 1.9
LQD iShares iBoxx $ Investment Grade Corporate Bond ETF 5.96 3.1
IEF iShares 7-10 Year Treasury Bond ETF 5.26 2.5
HYG iShares iBoxx $ High Yield Corporate Bond ETF 4.25 4.22
MBB iShares MBS ETF 3.82 2.16
BKLN PowerShares Senior Loan Portfolio 2.03 4.47
*Data as of 7/16/14, source: stockcharts.com    
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David Fabian, FMD Capital Management, and/or clients may hold positions in the ETFs and mutual funds mentioned above. The commentary does not constitute individualized investment advice. The opinions ...

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