Reasons to stay short with exposure to unwanted bonds

With the Federal Reserve apparently considering an interest rate hike in 2022, bond investors are once again facing curveballs from the US central bank.

The 2021 bond horizon is a vexing cocktail of low interest rates, depressed credit spreads and the specter of an impending rate hike. In other words, duration risk is now a big part of the equation for bond investors, which is problematic at a time when low yields are so prevalent. With all of that in mind, this might be a great time for short-income investors to consider short-term high yield bond funds.

“Given their shorter durations, this subset of high yield bond strategies generally outperform the larger category during interest rate spikes. When rates rose in the first 10 months of 2018, the typical short-term, high-yielding supply returned 2.0%, beating the median return of its larger category by 0.4%. More recently, when rates soared in the first quarter of 2021, short-term offers posted a typical yield of 1.7%, 75 basis points better than the group norm, ”says Morningstar analyst Sam Kulahan.

The average return for a short-lived junk bond fund is around 2.7%. While that’s lower than what investors find on traditional high-yield corporate debt funds, 2.7% is excellent by current yield standards, and that’s a solid percentage considering that the duration risk is lower. In addition, short-term bond ETFs generally have less credit risk than standard term equivalents.

“Short-lived high yield funds also generally take less credit risk than traditional high yield strategies,” notes Kulahan. “In June 2021, the typical supply of short-dated high-yield securities held 5 percentage points more of BB-rated debt, which is the highest rating for high-yield debt, than the category standard at high efficiency. The typical short-lived high yield fund also had 15 percentage points less of B-rated debt securities and below the median of the high yield category. “

Examples of short-term, high-yield corporate bond exchange-traded funds include the IShares 0-5 Year High Yield Corp Bond ETF (NYSEArca: SHYG), the SPDR Bloomberg Barclays Short-Term High Yield Bond ETF (NYSEArca: SJNK), and the PIMCO 0-5 Year High Yield Corp Bond ETF (NYSEArca: HYS).

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

About Meredith Campagna

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