Oil hitting high yield bonds

HYG OILIn today’s StockCharts.com commentary, Arthur Hill sheds some light on what’s plaguing high yield bond ETFs lately: sinking oil prices. He points out that iShares iBoxx $ High Yield Corporate Bond (HYG) and SPDR Barclays High Yield Bond (JNK), the two biggest players in the high yield bond ETF business with a combined $23 billion in assets, each have large stakes in the energy sector. And with oil prices in a free-fall, HYG and JNK are feeling the impact. Note the strong correlation in my chart of HYG (without dividends) and crude oil – click to enlarge. Both topped out in June and have been declining together.

My newsletter’s timing model for US High Yield Bond Funds generated a sell signal on September 15, quickly reversing an August 29 buy signal.

 ♦ Please note that my readings will change without notice,  so please don’t buy or sell solely based on anything you read in this blog. ♦

Still alive and kicking

Last year a number of analysts sounded the death knell for the bond market. The chorus grew louder in mid-December when the Federal Reserve announced it would begin scaling back its stimulus program in January. Prevailing wisdom said that since the Fed’s $85 billion monthly bond-buying program has kept interest rates artificially low, bonds would soon come under downside pressure given the inverse relationship between interest rates and bond prices. Funny, someone forgot to tell the bond market.

Take a look at the year-to-date charts above representing US bonds, US high yield bonds, US municipal bonds and (for good measure) international bonds. My proxies for these markets are  iShares Core Total US Bond Market ETF (AGG), iShares iBoxx $ High Yield Corporate Bd (HYG), iShares National AMT-Free Muni Bond (MUB) and SPDR Barclays International Treasury Bd (BWX).  Through February 27 these exchange-traded funds have increased 2.0%, 2.6%, 3.4% and 2.3%, respectively, and are up 3.0%, 7.7%, 6.5% and 3.8% over the past six months.

I don’t disagree that the 32-year old bull market in Treasury bonds is long in tooth. Looking back at 200 years of data on interest rates in the US, bond bull markets historically run 22-37 years. But I also know from studying the past that bond markets roll over very slowly – it can take 2 to 14 years to change trend. Bottom line: Low rates can last for a long time. Take the guesswork out of the investment process and let charts guide your decisions. My newsletter provides intermediate-trend buy and sell signals for the bond markets shown above.

♦ Please note that my readings will change without notice,  so please don’t buy or sell solely based on anything you read in this blog. 

Strong showing, relatively

click to enlarge

click to enlarge

The specter of rising interest rates has taken a toll on the bond market in 2013, but demand for high yield bond funds remains elevated as investors continue to look for an alternative to low-yielding Treasuries and volatile stocks. In fact, sales of individual high yield bonds are on pace to surpass 2012’s record. So far this year iShares Boxx High Yield Corporate Bond (HYG), a $15.5 billion ETF,  has climbed nearly 6% in a period where investment grade bond funds, tax-free bond funds and international bond funds have come under pressure and are sitting on losses.

High yield bond funds owe their resilience year-to-date to a low level of interest rate sensitivity.  A study conducted in the mid-2000s attempted to quantify this characteristic and found that only 3% of a high yield bond’s price variation could be explained by interest rates while 24% of price movement was influenced by the direction of equity markets. In other words, high yield bonds actually behave more like stocks than bonds. In May I blogged about a recent Barclays study that looked at periods when 10-year Treasury yields rose 100 basis points or more. Barclays found there had been 13 such times in the past 30 years and that high yield bonds outperformed investment grade bonds 12 times.

I’ve managed a High Yield Bond Portfolio for over 20 years for clients interested in leveraging the high yield bond market’s unique performance characteristics to diversify their portfolios. I move their investments to US Treasuries or cash when high yield bond risk is elevated. Between 1992 and 2012 the program’s returned 8.5% annually compounded, after fees, with only small losses along the way. If you’re interested in trading high yield bonds yourself, check out my newsletter – I supply general buy/sell signals for US high yield bond funds, along with a weekly list of top monitored funds/ETFs based on price momentum.

♦ Please note that my readings will change without notice,  so please don’t buy or sell solely based on anything you read in this blog.