High yield bonds

SeekingAlpha  Apr 14  Comment 
ByHolmes Osborne: It was announced today that mutual fund giant Nuveen will be bought out by TIAA-CREF. TIAA-CREF is a powerhouse in managing retirement funds for teachers and college professors. Nuveen's junk bonds have risen substantially in...
Yahoo  Mar 17  Comment 
Yield chasers have made high-yield debt one of the most popular asset classes this year, pushing returns to near record lows, and some analysts are concerned the segment is becoming too risky.
Times Online  Feb 3  Comment 
The Rev Paul Flowers may have led the Co-operative Bank to disaster but at least he passed a psychometric test...
SeekingAlpha  Jan 10  Comment 
By Cliff Smith: The moving day average (MDA) has long been recognized as a simple tactical growth and risk mitigation strategy for retirement portfolios. The basic idea is to be in a stock/ETF when it is above the MDA, and to be out of a stock/ETF...
SeekingAlpha  Jan 6  Comment 
By Safety In Value: Robert Levine wrote "How to Make Money in Junk Bonds" as an introduction to junk bonds and to provide a method for selecting junk bonds in which to invest. The book provides an introduction to credit analysis, which is...
Wall Street Journal  Dec 30  Comment 
Sales of long-term "junk" bonds are lagging and prices are down, the latest sign that investors are flocking to shorter-term securities that are less vulnerable to rising interest rates.


High Yield Bonds, often referred to as "junk bonds," are bonds that carry a high risk of default and, as a result, offer a higher yield than investment grade bonds. A high yield bond is classified as having a credit rating of BB+ or lower, while bonds with rating of BBB or higher are known as investment grade. Debt instruments are the converse of equity instruments, or stocks, and generally perform better than equities during economic downturns. This generality holds because debt holders have the first claim on a company's assets. In recessionary periods when cash flows are tight, the companies are required to pay their bond holders before their shareholders receive anything.

Junk bonds are the ones that usually pay a high yield because their credit ratings aren’t stellar. Therefore, in order to borrow money from outside investors, they must pay a higher interest rate in order to attract people to lend them money. This higher interest rate reflects the higher chance of default by the company.

Investing in high yield bonds

High yield bonds can be bought individually through a broker or in bulk through mutual funds. A high yield mutual fund is a better choice for individual investors because it reduces risk. This is because the risk is spread over a larger number of contracts, which is known as diversifying your credit risk of high yield bonds. That is, while any single bond within the fund may have a relatively high probability of default, when many are grouped together the risk that all, or even most, of the bonds defaulting is much lower. In fact, historically the average rate of default between 1971 and 2008 was 3.18%, and even when a high yield bond defaults, bond holders are able to recover on average 44 cents on the dollar.[1] Therefore, even when high yield bonds default, the investor often does not lose the entire principal.

There are other considerations to take into account besides simply the yield and credit risk. There are two ways high yield bonds enter the market. The first are high yield bonds that are issued by corporations whose credit rating is below investment grade at the time of issue. Because the debt that is being issued is backed by corporations that may a higher chance of being unable to repay, their debt is considered below investment grade and therefore they must pay a higher interest rate. The second way are bonds issued by corporations that were investment grade at the time of issue, but whose credit rating fell below investment grade. For example, suppose Company X currently has a credit rating of AA (investment grade), and issues bonds that expire in 10 years. Two years later, Company X's performance has fallen off considerably, and its credit rating is now BB+, meaning it is now below investment grade. Therefore, even though the bonds were initially investment grade bonds, it can still fall below investment grade and turn into a high yield bond. These are often referred to as "fallen stars".

When investment grade companies' credit ratings drop to below investment grade, the bond now not only has a higher risk of default, but the price of the bond will fall as well. Therefore, if you plan to sell the bond before maturity, your holding period return will suffer with drops in credit ratings. Conversely, if you purchase a high yield bond, and the company's credit rating improves to investment grade, the value of your bond will increase significantly. An investor can view the interest payments as analogous to dividend payments made by stocks while changes in credit ratings are somewhat analogous to changes in the bond price.

What are the differences between high yield bonds and regular bonds?

From a purely technical standpoint, high yield bonds aren’t any different from regular bonds, since they act as the professional equivalent of an IOU. Every high yield bond has an agreed upon principal (the amount the company will pay back), maturity date (the date it will pay back the amount), and coupon or interest it will pay on the borrowed amount.

The reason that high yield bonds are classified differently from normal, run-of-the-mill bond is due to the credit quality of the issuers. Since all bonds are “graded” on the same scale - and there are only two grades they can fall under - junk bonds are anything that don’t meet the Investment Grade restrictions: i.e. issued by low or medium-risk lenders..

Wikinvest © 2006, 2007, 2008, 2009, 2010, 2011, 2012. Use of this site is subject to express Terms of Service, Privacy Policy, and Disclaimer. By continuing past this page, you agree to abide by these terms. Any information provided by Wikinvest, including but not limited to company data, competitors, business analysis, market share, sales revenues and other operating metrics, earnings call analysis, conference call transcripts, industry information, or price targets should not be construed as research, trading tips or recommendations, or investment advice and is provided with no warrants as to its accuracy. Stock market data, including US and International equity symbols, stock quotes, share prices, earnings ratios, and other fundamental data is provided by data partners. Stock market quotes delayed at least 15 minutes for NASDAQ, 20 mins for NYSE and AMEX. Market data by Xignite. See data providers for more details. Company names, products, services and branding cited herein may be trademarks or registered trademarks of their respective owners. The use of trademarks or service marks of another is not a representation that the other is affiliated with, sponsors, is sponsored by, endorses, or is endorsed by Wikinvest.
Powered by MediaWiki