High Yield Bond ETFs: Proceed with Caution

It’s hard to deny the appeal of an ETF yield that’s sitting solidly in the double-digits, especially now that interest rates are at historic lows. But these high yields could be luring some investors to take on more risk than they’d otherwise be comfortable with.

The latest short-term interest rates are at all-time lows, causing investors to seek performance in intermediate-term, mortgage-backed and other relatively risky bond funds for a better return, Karen Blumenthal for The Wall Street Journal writes Jon Short, managing director at PIMCO, said that investors may want to focus more on return of capital rather than return on capital.

Blumenthal writes that short-term options are the best way to guarantee that the money you put in will be given back later. For long-term and intermediate-term investors, intermediate-term and high-yield funds might work fine over time. If interest rates rise, bond prices will crumble, hurting intermediate-term bonds if you need the money sooner rather than later.

If interest rates rise quickly, then longer-term bond ETFs can serve a portfolio well.

While high yields are great, consider other factors before diving in. The fund should be right for you, your goals and your time horizon. As with any ETF type, it’s also wise to employ a strategy of exit and entry when buying and selling bond funds.

• SPDR Barclays Capital High Yield Bond (NYSEArca: JNK): up 32.8% year-to-date; yields 12.5%

• iShares iBoxx $ High Yield Corporate Bond (NYSEArca: HYG): up 24.5% year-to-date; yields 9.8%

Comments

[Mad Hedge Fund Trader]

nnv One of my flock of canaries in the coal mine is the junk bond market, which is a great leading indicator of global risk taking. At the beginning of the year I stampeded readers into junk bond ETF’s like (JNK), (PH, and (HYG), because the market was discounting a default rate of 18%, while I was expecting only 12% (click here ). These highly leveraged securities always overshoot on the downside when panic grips the herd. Believers reaped substantial returns, with JNK bringing in 65% since then. Now what? If you don’t get a double dip recession that default rate could fall to as low as 4%, as yield hungry institutions pile into the most leveraged companies with long term bonds yielding as high as 9.5% to 28%. That would cause JNK to double again from current levels. If we do plunge back into the Great Recession, as many hedge fund managers believe, then we could give up a chunk of this year’s gains. Let me know which one it is, will you? Even with the worst case scenario, I don’t think we will hit new lows. There was, after all, only one Lehman.

2009 Nov 22 03:33 PM

[Trader BOB]

Tell us the negative side and long term problems of owning ETF's like JNK, HYG, CII, BGY, INB, all of which are paying in the range of a 9 - 15% return.

Looks good to me.

What say you?.

2009 Nov 23 09:04 AM