Bright outlook for high yield in 2014


For those who picked up a copy of the Wall Street Journal in the fall semester, the headlines were dominated by the record rally in the equity market. Equities have faced uncertainty in the face of weak economic numbers in the U.S., China and emerging markets as 2014 began.

Investors also anxiously awaited the confirmation of Federal Reserve Chair Janet Yellen to observe the direction of monetary policy in coming months. In the midst of this economic uncertainty, financial markets have recovered to move sideways on aggregate in 2014.

The initial slump sent indexes that measure performance of top U.S. companies such as the Dow Jones Industrial Average and the S&P 500 tumbling as low as 15,389 and 1,740 respectively. Interest rates on the 10-year Treasury Note also fell as low as 2.60 as investors fled to safely grow capital made in last year’s stock market rally.

Bond yields and price move inverse to one another because as investors’ demands increase, they are willing to accept a lower rate of return in exchange for safety.

With low rates of return and uncertain direction for the economy and equity market, more people are looking for creative ways to invest their money in 2014.

High-yield corporate debt offers a retreat for people in search of higher returns. High-yield instruments offer a higher rate of return to incentivize investors to loan money to companies that are viewed as higher risk. Steady GDP growth coupled with the high liquidity that accompanies low borrowing costs and lack of corporate debt maturities in the near horizon should result in a fewer defaults on high-yielding instruments. A report published by PIMCO, a leading investor solution provider, forecasts that less than 10 percent of high-yield maturities are between 2014 and 2016.

High-yield debt was issued expansively and outflows totaled $3.9 billion in 2013. An estimated 54 percent of these issuances were used to refinance current debt while interest rates were held low by the Fed
As markets trade up and the outlook for the economy improves, we could see debt issuers may be more inclined to use their newly obtained capital for growth and expansion projects. This could further boost the economic strength of the U.S. and lead to less default risk from companies deemed “Fallen Angels” for their downgrade from investment grade to high yield.

Propelling forward in 2014, investing in speculative grade credit can pay off big for investors. Although aggressive borrowing presents opportunities in a recovering environment, it is still imperative to pay due diligence to company and sector trends.

By immersing oneself in the market and appropriately managing one’s liquidity risks with a diversified portfolio, leveraged credit is an attractive opportunity for solid returns this year.

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