2023-04-18 13:13:04 ET
Summary
- Domestic HY credit has been trading sideways lately, with few spikes in credit spreads despite dire headlines.
- I see mixed risks in JNK, and outline a few price levels to watch.
- With stricter lending conditions but also healthy corporate debt levels, there's something for the bulls and bears.
There is a disconnect in the credit markets right now. Typically, when lending standards tighten, as we have seen since the regional banking turmoil of early to mid-March, high yield spreads jump. That has not happened this time around.
Notice in the chart below from True Insights that the US High Yield OAS continues to be conspicuously quiet. Historical trends suggest that caution should be taken when stepping out with credit risk today. I have a hold rating on one popular junk bond fund.
Is A HY OAS Spike On The Way?
But today, corporate balance sheets are actually in decent shape. It's really the U.S. government that has amped up its leverage.
Corporates & Households: Low Debt
According to the issuer , the SPDR Bloomberg High Yield Bond ETF ( JNK ) seeks to provide investors with exposure to the Bloomberg High Yield Very Liquid Index of low-quality corporate bonds. It is a diversified basket of domestic low-quality corporate credit that also features above-average liquidity, according to SSGA Funds. JNK is rebalanced monthly and sports a 0.40% annual expense ratio.
With more than $8.6 billion in assets under management and a trailing 12-month yield above 6%, it is a large and liquid ETF. The current yield-to-worst, a key dividend metric for income investors, stands at 8.27% as of April 17, 2023, and the current option-adjusted spread is 4.21%. U.S. low-quality bonds generally feature lower duration relative to investment-grade fixed-income, so there is less interest rate risk. The option-adjusted duration is just 3.7 years while the yield-to-maturity is 8.36%.
Holding more than 1,000 issues, the 30-day median bid/ask spread is just a single basis point while its current premium to NAV is 0.15%, which is very tight. As you would expect, JNK falls in the lower-left portion of the Morningstar Style Box and 45% of the allocation is rated BB while 44% is rated B, so the portfolio is not of extremely low quality, and it includes many fallen angels that were once high-grade.
JNK: Portfolio Characteristics
What is interesting about JNK's portfolio is that the consumer is the largest sector weight. That could be a risk should excess savings continue to dwindle amid rising unemployment later this year.
Still, there's diversification in that higher-quality tech-related debt is a decent chunk while the Energy sector is an overweight compared to the equity market, and that area is producing strong cash flow. Overall, I see fewer credit risks today compared to other stressed periods given the strength of corporate balance sheets.
JNK: Diverse Sector Exposure
SSGA
Seasonally, JNK tends to be in rally mode now through July, according to data from Equity Clock . Credit events have not been too problematic during Q2 in the last 15 years, so it makes sense that HY yields fall this time of year.
Bullish HY Bond Seasonality
The Technical Take
JNK is in consolidation mode. The chart below illustrates that there have been a series of lower highs since the middle of last year, but there are also higher lows being notched off the October 12 low. Should the price break out above $95, the downtrend is likely broken.
Moreover, the 200-day moving average has flattened after being in a protracted downtrend while JNK's price has inched above that long-term trend indicator. So, there are some signs of optimism, but a move below $89 would suggest that the bears have regained control. Overall, the risks seem relatively balanced between bullish and bearish factors.
JNK: Attempting To Bottom, Still Work To Do
The Bottom Line
I have a hold rating on JNK. I like the strength of corporate balance sheets and the bearish price trend on the ETF could be reversing, but we are not quite there yet.
For further details see:
Corporate Balance Sheets Strong, Lending Standards Tighten, JNK Risks Balanced