17 January 2018

High-Yield Bond Funds See Massive Outflow

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Investors pulled nearly $1.9 billion from funds dedicated to low-rated corporate bonds in the past week, extending a retreat from risky debt amid a free fall in the price of crude oil. The outflow is the largest weekly decline since the $2.3 billion withdrawal registered in the week ended Oct. 1, and follows $859 million that flowed out the week ended Dec. 3, according to fund tracker Lipper.

Tremors from the slide in oil prices that initially hit energy bonds are now being felt across the broader $1.3 trillion junk-bond market, investors and analysts said, causing hesitation among would-be buyers and a hurried reshuffling of bond portfolios as funds look to raise cash to meet redemptions.

Investors are selling junk bonds at the fastest clip in 18 months, according to data from Barclays PLC, and many are worried the upheaval could become a catalyst for more lasting weakness in high yield, particularly if growth slows or individual investors get spooked and see a reason to pull more of their money.

The selling constitutes the third major reassessment of junk-rated debt this year and follows criticism from analysts and regulators that the yield investors could earn on the debt had fallen too low. Previous retreats in July and in mid-October were characterized by large-scale selling as individual investors pulled their money, leaving large institutions to buy the debt at deep discounts.

The risk for junk-bond buyers is that the market continues to stumble and many of those investors remain wary of stepping in too early, in case the market registers another big decline.

The oil rout has put a dent in issuance volumes, causing a handful of energy companies to delay or cancel their borrowing plans. The issuance boom had helped a host of energy companies fund their business plans by borrowing heavily on the back of investor demand for higher yielding debt. Energy companies used the reach for yield among debt investors to line their pockets for new projects, equipment and acquisitions. But those energy bonds were sold when commodity prices and energy stocks were riding high, implying more favorable economics for the energy industry. U.S. oil prices hit $59.95 a barrel on Thursday, the lowest since July 2009.

The drawdowns signal a growing wariness about owning risky debt, following a slide in oil prices that has left investors worried about energy’s trickle-down effect on the economy. Energy bonds constitute 14% of the U.S. high-yield bond market.

This week, even nonenergy high-yield bonds have been hit as investors rushed to sell whatever debt they could to raise cash. Goldman Sachs Group Inc. is forecasting further downside in prices and lingering price volatility.

It is a bad time to see weakness in high yield: Dealer middlemen, who traditionally cushioned any selling pressure, have been re-evaluating their willingness to buy and sell bonds for their clients since the financial crisis and they have been especially reluctant to step in around year-end, raising costs for investors trying to complete trades.

In the week following bond market tumult on Oct. 15, dealer stockpiles of high-yield corporate bonds called “inventories” dipped below one-fifth of their average for the year, according to data from the Federal Reserve Bank of New York.

Investors are now demanding 5.02 percentage point over comparable Treasurys to own U.S. high-yield corporate bonds, the widest spread since June 2013, after the Fed hinted it may raise interest rates sooner many were expecting. But some believe the panic is overdone. Mr. Sherman said he has been reducing his fund’s exposure to the energy sector all year but that the prices in the market are “starting to get interesting” enough to tempt him to buy again.

Morgan Stanley strategists predict that investors will continue to reach for yield in 2015, benefiting junk bonds. The firm said in an outlook piece for next year that it had been cautious on the debt for most of 2014 because it felt prices had run too high, but that “given recent volatility, sentiment is much less complacent.”

Click here to access the full article on The Wall Street Journal. 

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