By Maulik Mody
High yield bond issuance is reviving this week after falling over 50% for the past two weeks on increased concerns about a nuclear disaster in Japan and growing tensions in the Middle-East. The amount of new issues sold fell to $2.45 billion in the week ended March 18, just two weeks after markets saw $12.6 billion worth of high yield bond sales. This week will see Intelsat issuing $2.65 worth of speculative debt in 10-12 years maturity spectrum, among many others.
The high yield debt has out-rallied other safer grade bonds and stocks since the financial crisis, as borrowers continue to take advantage of record-low rates. The BoA Merrill Lynch High Yield Master index shows that high yield markets returned 2.1% and 1.3% in the first two months of 2011 respectively, after over 15% of total returns in 2010. The relative yields (yields in excess of Treasuries) also tightened from 516 basis points last week to 493 yesterday. The increasingly narrowing spreads and inflow of debt in the market suggests that speculative debt may continue to be a hot investment for months to come.
This raises the question of how to make the most of the fact that once the economic recovery looks stronger and interest rates start rising, there is going to be a major pullback in high yield bonds that will create good trading/investing opportunities. An alternative ETF was released today by ProShares, called The ProShare Short High Yield (SJB), which is designed to provide a daily return which is an inverse of Markit iBoxx Liquid High Yield index’s daily performance.
SJB can prove to be a good way for investor’s to hedge their position in high yield bonds or to bet on their view on the speculative debt market. But since it was designed to provide -1x times the daily return of the Markit iBoxx index, it will mostly likely need daily rebalancing, which will incur transaction costs and have tax implications. This will not however impede investors from betting against the market and making the most of the rebound, whenever it happens.