Is It Too Late to Catch the Corporate Bond ETF Wave?

Jul.13.09 | About: iShares iBoxx (LQD)

images Investment grade corporate bonds and the exchange traded funds (ETFs) that track them might see a better second half of 2009 if analysts are proved to be correct.

U.S. company debt is paying a higher yield than Treasury bonds, leading to a resurgence in corporate bonds. In the first half of this year, such bonds rated BBB or higher by Standard & Poor’s gained 9.24% in the first half of the year. In the second half of last year, they lost 6.05%, says Deborah Levine for MarketWatch.

To answer the question of whether it’s too late, one expert points to spreads between corporate yields and Treasuries. Right now, the spreads are near or higher than they were at the worst point of the 2001-2002 recession, signaling to him that it isn’t too late.

iShares GS $ Invesment Grade Corporate Bond (NYSEARCA:LQD) is above its 200-day moving average. If this is an area that’s right for you, be sure to have a stop loss in place if the trend reverses itself. It’s up 2.4% year-to-date and yields 5.59%.

As a point of caution, some market analysts are calling for an 8% default rate for investment-grade corporate bonds, but 5% annual default rates are more likely. Bernard Condon for Forbes reoprts that the losses in stock prices are still scathing and the S&P 500 is at the same level it was a dozen years ago, the debate is raging over whether stocks are worth owning at all.

Bond holders have had to endure much less turbulence this year compared to stock holders, and the junk bonds have yielded the best compensation for their high 9.2% volatility rate.

The numbers illustrate the case for bonds, as the S&P 500 returned only 7.7% annually over the 20 years through June 17. That was a full percentage point behind the 8.7% for Treasuries with maturities of 10 years or more, only slightly ahead of junk bonds’ 7.5% returns and investment-grade bonds’ 7.2%, according to Morningstar.

Bonds are an alternative for trying to ride the market momentum up. Economic fundamentals are supporting the case for bonds for the long term, rather than taking on high risk with the equities markets.

Full disclosure: Tom Lydon’s clients own shares of LQD.