High Yield Bond ETFs Vs. High Yield Bond Mutual Funds

Includes: HYG, JNK
by: Richard Shaw

Yield hungry investors look to high yield bond funds more often now due to depressed Treasury and high quality corporate bond yields.

Two popular high yield corporate bond funds are iShares iBoxx HYG and SPDR Barclays JNK. How do they compare to high yield mutual funds that have done well?

We identified those no-load, high yield corporate bond mutual funds available to retail investors that generated total returns above the median for the category as of October 31, for three-year and five-year rolling periods, and which did not have price declines in excess of 20% in 2008.

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Those mutual funds were NHINX (Neuberger Berman), JNHYX (Janus), PYHIX (Principal) and IVHIX (IVY).

We compared those funds with HYG and JNK, as well as the Vanguard high yield bond fund (VWEHX).

On balance, HYG appears to be a better option than JNK based on historical data.

Mutual funds versus ETFs is a toss up depending on what factors are more important to each investor. The main difference is that the mutual funds have history that ETFs do not (although the ETFs are based on indexes that have history), and more importantly the mutual funds are actively managed while the ETFs are not.

Actively managed has the positive feature that the manager can be reactive or proactive to the environment while passive funds cannot. On the other hand, you have a clearer idea of what you own with an index and are not exposed to the risk of an active manager tilting the portfolio in a direction that turns out to be the wrong way.

The Neuberger fund stands apart in terms of credit quality with a BB average rating versus B for the others, That has paid off long-term, but created a total return penalty in the short-term.

ETFs can be bought and sold intra-day, which mutual funds cannot, and ETFs can be margined and shorted which mutual funds cannot. However, other assets can be margined to create cash to buy mutual funds.

We don't think that the intra-day trading feature of ETFs is important for bond funds, which are generally held for substantial periods of time.

ETFs can be used with stop loss orders, which mutual funds cannot, but intra-day stops are a dangerous thing these days, given high frequency trading and the adverse experiences of May 6th, 2010, as well as one-off momentary shock price drops in various securities, including some bond ETFs. Taking an end-of-day manual approach to stops is probably a good idea overall, and probably all that one would need for bond funds of any type.

We think the evidence does not establish that one type of investment vehicle is better than the other for bond funds.

Disclosure: QVM does not have positions in any mentioned security as of the creation date of this article (December 8, 2011).

Disclaimer: This article provides opinions and information, but does not contain recommendations or personal investment advice to any specific person for any particular purpose. Do your own research or obtain suitable personal advice. You are responsible for your own investment decisions. This article is presented subject to our full disclaimer found on the QVM site available here.