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Don't Abandon High-Yield Bond ETFs Just Yet

Stocks in this article: JNK PFXF BSJH AUNZ

NEW YORK ( ETF Expert) -- Every year for the past three years, scores of pundits have predicted the demise of high-yield bonds. Reasons have included record low yields for the asset class, an imminent rise in interest rates, questionable balance sheets, recession, inflation and overvaluation.

In spite of gloomy forecasts, Morningstar revealed that high-yield bonds have averaged 10.5% annually over the past three years. Perhaps ironically, this fact in and of itself is causing many to recommend abandoning funds like SPDR High Yield Corporate Bond (JNK).

Granted, the Federal Reserve's bond-buying policies have inflated a Treasury bond balloon. Should the world lose confidence in the U.S., our currency or our economy, the balloon could deflate or burst, and that would send diversified high-yield corporates into a tailspin.

Of course, the very same occurrence would almost assuredly smack down everything on the income spectrum; price declines would occur in convertibles, preferreds and dividend stocks. In fact, an undesirably rapid rise in rates would probably hurt common stocks of all sizes and shapes, since the U.S. economy would fret the loss of consumer spending power.

In other words, a massive sell-off in high-yield bonds is unlikely to occur in a vacuum. If and when the markets do not like this particular asset class, the event would be precipitated by one of two general scenarios:

  • Investors sell intermediate Treasuries and intermediate-term investment grade corporates, causing yield spreads to contract and all income producers to fall in price.
  • Investors sweat the global economy causing a sell-off in risk assets like common stocks; high-yield bonds would be dumped, though decline less than stocks.

While the scenarios may be realistic, central banks around the world are still committing to conventional and unconventional easing. Moreover, the powerful tailwind is not destined to disappear overnight. It follows that any popping of a bond bubble would be seen in simple-to-monitor charts.

Is SPDR High Yield Corporate Bond overbought? Sure, in the same manner that all risk assets are currently at the higher end of Relative Strength Index readings and currently sitting at high single-digit percentages above 200-day trendlines.

Nevertheless, until key trendlines or stop-limit loss orders hit , I would not sell existing high-ield corporate bond ETF positions.

Putting cash to work is another matter. If intermediate-term high-yield corporates pull back, I'd consider an allocation. Absent that, I am more intrigued by income producers that aren't necessarily "oversubscribed."

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