Investment during the economic crisis has forced some tough decisions, and due to widespread Euro zone market uncertainty, high yield bonds are becoming a very tempting proposition to a wide range of institutional investors as they try to pacify their portfolio volatility.
The ‘Investing in High Yield Bonds’ report, published today by Clear Path Analysis, reveals that a market shake up has caused a move away from traditional government bonds as investors are keen to look at alternative ways to spread their risk. In these uncertain times, high yield bonds can offset risk for investors.
The current global economic situation is driving the trend in increasing the popularity of alternative asset classes. Current conditions have meant that Treasury bonds remain low whereas high yield bonds have climbed from their sub 7% yield lows and the outlook for this market investment is once again beginning to look promising for new investors.
Fraser Lundie, Senior Credit Portfolio Manager, Hermes OCL, said “Investors are facing some difficult decisions when it comes to investing in global financial markets at present. In times like this, investors often look to move their capital away from riskier investments to the safest possible investment vehicles. Typically, this would mean purchasing government bonds from high rated countries. However, with the interest rates at historical lows, the US downgrade, and more importantly the Euro government crisis, these assets do not provide the safe haven they once did. As a result investors remain challenged to look for alternative ways to put their money to work. “
“In fact, corporate exposure with a particular emphasis to the High Yield space through both loans and bonds are efficient assets to invest in. In the corporate bonds space, Investment Grade bonds are the most affected by interest rate changes. High Yield bonds and especially loans through their Libor plus-structure are much less sensitive.”
He goes on to note that: “Moody’s default rates have come down from a very serious peak and are now at below-average levels which leads one to think that the market place has been shaken up in such a major way, leaving us with companies in the High Yield space that have a relatively sound financing structure. Furthermore, the next wave of bond refinancing has also been pushed out from next year to 2014-15 allowing companies with more breathing space to get through the current crisis.”
Lundie remarks that a diverse asset approach is key: “Even though High Yield bonds and loans have seen very positive returns over the last 3 years, spreads are currently at historically high levels. At present, the market is experiencing a default rate of around 2% for these assets and at the same time, under certain assumptions, the market is pricing for a default rate of almost 10 times that number.”
“We currently see a lot of opportunities for short maturity high yield funds which are designed to capture the currently elevated credit spreads by investing only in a limited number of short maturity high yield bonds. Ultimately we believe the returns from investing in short maturity high yield will be rewarding in the current market environment.”
Yet with certain investors expressing considerable concern, the ‘Investing in High Yield Bonds’ report takes a look at the prominent issues and reservations concerning the high yield bonds market.
Given the gravity of the Euro zone crisis, investors are looking at ways to diversify their risk; yet some are still not convinced by the riskier asset classes. A survey conducted by Clear Path Analysis found that 73% of investors were unsure about investing in high yield bonds, given the current forecast for default levels and interest rates.
Asked if this was the right time to consider high yield bonds, Anthony Robertson, Head of High Yield Debt at Bluebay Asset Management, airs a note of caution: “This depends on the extent of the damage that the current crisis prevails on the market. In the extreme scenario where there was a risk to a sovereign, such as in the Italian sovereign case, it could be a negative signal with no exception.”
“If investors have exposure to that asset class already, my inclination would be to wait, as fair value at best today is about 200 basis points tighter compared to the beginning of October where spreads were nearly 950, at which point the market was more appropriately factoring in the risks of a more broad based European sovereign crisis.”
However, he goes on to state that: “If the crisis can be contained within the periphery i.e. Greece, Ireland and Portugal, then the volatility and dislocation caused by the on-going concerns presents very interesting entry points on any weakening”
Despite his considered approach to high yield bonds, Robertson notes that: “The global high yield market is the most attractive. The exposure to the high yield markets in a singular geography leaves investors vulnerable to macroeconomic risks. On the other hand, a global market affords you the flexibility of diversifying across regions and allows you to take advantage of dislocation and extreme levels of volatility where ever they may appear.”
“Global high yield has not only generated superior risk adjustment returns against equities over the last 10-15 years but in the last 5 years it has generated superior absolute return with half the volatility. That speaks for itself in its attractiveness in a world where capital allocation needs to happen in some shape or form.”
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