High yield bonds have been a staple of US portfolios for more than thirty years, and the trends that have led to a large and well-developed US market are beginning to establish themselves elsewhere as companies increasingly turn to high yield bonds as a source of funding.
This growing global supply creates greater choice for investors at a time when demand for high yield bonds is also increasing because of the favourable risk/return and yield characteristics of the asset class.
High yield bonds are corporate bonds that carry a subinvestment grade credit rating. They are typically issued by companies with a higher risk of default, hence the higher yields. Henderson believe the following factors combine to make high yield bonds an attractive investment:
- Growing and globalising market
- High income in a low yield world
- Low sensitivity to the interest rate cycle
- Default rates expected to remain low
- Significant opportunities for credit selection
- A growing and globalising market
As the table shows, the high yield bond market has trebled in size in the last 10 years and, geographically, is becoming more diverse. “In part, this reflects a more confident and established market, as well as companies increasingly turning to the high yield bond market after banks cut back on lending following the financial crisis”, points out Chris Bullock, credit analyst at Henderson and co-manager on the Euro Corporate Bond Fund and Euro High Yield Bond Funds.
Today, the high yield market comprises a vast range of companies from household giants such as Tesco, Heinz and Telecom Italia through to small and medium-sized companies that are raising funding through bond markets for the first time. This creates an attractive and expanding mix of issuers that can reward strong credit analysis.
High income in a low yield world
High yield bonds continue to offer an attractive income pick-up.
Yields in many fixed income sub-asset classes are still close to historical lows despite recent rates market volatility. Yields have been driven by low global central bank rates combined with quantitative easing (QE). In the first half of 2015 alone, 33 central banks cut interest rates, while the ECB embarked on its €60bn-a-month quantitative easing programme.
From a risk-return perspective, high yield bonds are typically seen as occupying the space between investment grade bonds and equities. As the chart shows, over the last 15 years, high yield bonds have outperformed investment grade corporate bonds, government bonds and even equities, with less volatility than equities. The high income element in high yield bonds has been a valuable component of total return.
Past performance is not a guide to future performance.