There is no happier corner of the fixed income universe than junk bonds (JNK), (HYG), which have been soaring like a bat out of hell for the past eight years.
Average yields for the bond class most sensitive to the economy have collapsed from 18% to near an all-time low of 4.80%, a scant 243 basis points over ten year Treasury bonds.
The ETF (JNK), which I have been aggressively recommending since 2009, has clocked an eight-year total return of 271%.
In fact, junk bonds have nearly outperformed stocks since the great bull market began in March 2009.
If you look at the chart for (JNK) it virtually tracks the S&P 500 one for one, with less volatility, and therein lies the problem.
When bonds act like stocks, what happens to bonds when stocks go down?
That is a particularly pertinent question these days as stocks have more than tripled from the bottom.
After a move in the S&P 500 Index’s average multiple from 9 to 19, and a possible 20 top, are junk bonds peaking out here?
A 243 basis point premium does not sound like much compared to the historical range.
It is pricing in the near absence of risk in this paper, as if they will live forever? When did I last see this movie? 2006? 2007?
Alas, how short memories have become.
And here’s another scary thought.
About half of all junk bonds are issued by energy related companies.
That is great if the price of oil recovers to $60 a barrel, not so great if we plunge back to $25.
It might be worth taking some money off the table here, and taking the hit in the cash flow in your portfolio.
Lowering your beta is prudent, especially if you are about to move from a ‘RISK ON’ to a ‘RISK OFF’ world for more than a day.
No doubt, much of the juice in (JNK)’s recent moves came from the Federal Reserve’s aggressive monetary program called quantitative easing, which has been gone for two years now.
Do you really want to wait for the music to stop playing before you grab a chair?
As will many of these exchange traded funds, they are classic roach motels; you can check in, but you can’t check out.
Liquidity has a bad habit of disappearing on the downside.
But most of you are too young to remember that.
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