Top 10 High-Yield, Emerging-Market Bond ETFs

 

With yields low, investors seeking income are tempted to seek yield in other sectors where real rates of return after inflation can be found. Higher yields have traditionally been found in so-called "High-Yield" (Junk) bonds with even greater historical returns from Emerging Markets.

With High-Yield bonds, a unique condition occurred after the bottom of the 2008 bear market in equities. Companies once considered investment grade, particularly in the financial sector, suddenly were found in the junk category. As many of these companies were bailed-out or subsidized by the government the sector became more attractive to opportunistic investors. Demand for yield and return of capital also stimulated investors no longer as interested in equities due to heavy losses. Further, demographics with an aging baby boomer population also fed the demand for both yield and perceived safety. Why junk then? The momentum from equities to bonds was strong and this combined with the dissatisfaction with low yields from more credit worthy sectors. Investors have rationalized greater safety in government subsidies than credit ratings would indicate to gain more yield.

Emerging markets offered new opportunities as well. With growth from these economies in high gear opinions regarding their debt improved correspondingly. With demand for yield high this allowed investors to rationalize investments in these sectors.

Nevertheless, High Yield and Emerging Market Bonds have historically traded at certain "spreads" to higher rated debt. These spreads given the odd factors of nearly zero interest rate policies in the U.S., the unique circumstances cited within the High Yield sector and economic growth in Emerging Markets have thrown traditional wide spreads between sector yields out of whack making analysis difficult.

Below are several tables and charts reflecting current conditions within these various sectors with yields and spreads one to another.

 

 

 

 

 

Demand for yield is a condition not lost on ETF issuers and new products were issued and assets in these categories have grown substantially. We'll investigate some, not all, of the top issues in both these sectors.

Let's look at typical and more popular choices.

HYG (iShares iBoxx High Yield Bond ETF) tracks the index of the iBoxx High Yield Index. It's been a big money maker for iShares given the fee of .50%. The current yield is near 7.75% and one year return is over 18% which enhances the "you get what you pay for" theme. AUM (Assets under Management) are just shy of $9B and average daily trading volume is just over 1M shares. As demand increases for both ETFs and mutual funds, supply considerations become more difficult to deal with for all sponsors. Over 40% of holdings are rated B and the average duration is less than 10 years.

 

Data as of June 2011

HYG Top Ten Holdings & Weightings
  1. Citigroup 7%:                                       1.15%
  2. Lyondell Chemical 11%:                      0.94%
  3. HCA 9.25%:                                         0.87%
  4. First Data 12.625%:                             0.83%
  5. Citigroup 7%:                                       0.82%
  6. Intelsat Bermuda 11.25%:                    0.76%
  7. Texas Competitive Electric 11.5%:       0.72%
  8. Springleaf Financial 6.9%:                   0.72%
  9. CHS Community Health  8.875%:        0.71%
  10. Energy Future Inter Holdings 10%:     0.64%

JNK (SPDR Barclays Capital High Yield Bond ETF) seems a little odd doesn't it? As competitors you see HYG follow one index while JNK follows a Barclay's index owned by the other. Such is the result of mergers. Nevertheless, State Street needed to be in the game and has done so with a competitive offering with a lower fee (.40%) and AUM of $7.3B with average daily trading volume of 2.7M shares. The current yield is a little over 8% with a one-year return of 12.80%. The highest holdings consist of 50% rated B with an average duration of less than 10 years.   

Data as of June 2011

JNK Top Ten Holdings & Weightings
  1. Citigroup 7%:                                                   3.51%
  2. Lyondell Chemical 11%:                                   1.73%
  3. First Data 144A 12.625%:                                1.51%
  4. Harrah's Operations 10%:                                1.43%
  5. Intelsat Bermuda 11.25%:                                1.41%
  6. Energy Future International Holdings 10%:     1.12%
  7. Wind Acquisition Financial 11.75%:                 1.09%
  8. Clear Channel Holdings 9.25%:                       1.04%
  9. Residential Capital Corp 9.625%:                     1.01%
  10. FMG Resources PTY  7%:                              0.99%

 

PHB (PowerShares Fundamental High Yield Bond ETF) is based on the RAFI High Yield Bond Index which has more enhanced qualities to the index making it quasi-active. The official description consists of the index measuring the "theoretical portfolio of high yield bonds" of public companies listed on a major stock exchange. The expense ratio is .50% and the current yield is roughly 7% with a one year return of nearly 11%. AUM is $483M with average daily trading volume around 260K shares. Over 70% of the holding are rated BB which is higher than their two chief competitors while average duration is also less than 10 years.

Data as of June 2011

PHB Top Ten Holdings & Weightings
  1. Sprint Nextel 6%:                                             1.61%
  2. International Lease Finance 6.375%:               1.57%
  3. Weyerhaeuser 7.375%:                                   1.56%
  4. Ford Motor Credit Co 7%:                               1.26%
  5. Supervalu 8%:                                                 1.21%
  6. Dean Foods Co 7%:                                        1.17%
  7. International Lease Finance 8.25%:                 1.15%
  8. Ford Motor Credit Co 8%:                               1.15%
  9. Discover Bank 8.7%:                                        1.04%
  10. Penney J C Corp 5.65%:                                 1.04%

 

BKLN (PowerShares Senior Loan Portfolio ETF) is linked to the S&P/LSTA Leveraged Loan 100 Index. The index tracks the market-weighted of the largest institutional leveraged loans. It was launched recently in March 2011. The expense ratio is .83% and has AUM of $118M. The average daily trading volume is over 125K shares. Average credit ratings are evenly divided between BB and B with the average duration around 5 years. With the history short we can only repost what PowerShares has listed as the return for the "index" over the past year at 7.81%.

Data as of March 2011

BKLN Top Ten Holdings & Weightings

1.    First Trust Senior Floating Rate                       3.69%

2.    ING Prime Rate Trust                                      3.63%

3.    Texas Competitive Electric 3.79%                    2.20%

4.    Intelsat Jackson Holdings SA 5.25%                2.19%

5.    Community Health Systems 2.65%                  2.09%

6.    First Data Corporation 3.012%                         2.01%

7.    CSC Holdings (Cablevision) 3.512%                1.88%

8.    Clear Channel Communications 3.912             1.85%

9.    Fist Data Corporation 3.012%                          1.81% 10.  HCA Inc 2.53%                                                            1.88%

 

HYLD (Peritus High Yield ETF) is a relatively new entry launched in late 2010 by Advisor Shares and former San Francisco 49er tight end (should you care) Ron Heller. It is an "active" ETF meaning, like many mutual funds, there isn't a fixed index. More is expected of an actively managed product and that's reflected in the higher expense ratio of 1.35%. As a new fund AUM is low but rising and now stands at $39M making it profitable for both the advisor and sponsor. This is important since new products like this need to be successful to endure and assure investors it's a going concern. With only a brief history of trading since December 2010, HYLD has returned 6.31%. Average daily trading volume is only around 12K shares. Credit quality for many bonds is unavailable while the average current duration is less than 7 years. Remember, an Active ETF can change its holdings anytime and without much history and credit ratings you can only regard this issue as riskier.

Data as of June 2011

HYLD Top Ten Holdings & Weightings
  1. United Refinancing 10.5%:                              5.55%
  2. SGS International 12%:                                    4.99%
  3. Rotech Healthcare 10.5%:                               4.60%
  4. Harland Clarke Holdings 9.5%:                        4.58%
  5. DynCorp International10.375%:                       4.31%
  6. Eastman Kodak.9.75%:                                    4.30%
  7. Central European Finance 9.125%:                 4.30%
  8. Radnet 10.375%:                                             4.27%
  9. Icon Health & Fitness 11.875%:                       3.99%
  10. Dean Foods Co  9.75%:                                  3.96%

EMB (iShares JP Morgan Emerging Market Bond ETF) the index is a US dollar based benchmark tracking actively traded emerging market debt instruments. The fund was launched in December 2007. The expense ratio is .60%, AUM exceeds 2.7B with average daily trading volume around 250K shares. Performance as of quarter end March 2011 was .72% and the one year return through that period was 7.89%. The average duration of the portfolio is around 13 years with the average credit rating for roughly half the holdings of BBB with the balance of lower quality overall. 

Data as of June 2011

EMB Top Ten Holdings
  1. Philippines Rep 7.75%:                        4.11%
  2. Republic Of Turkey 7.25%:                 4.10%
  3. Republic Of Turkey 6.875%:               3.82%
  4. Russian Federation 7.5%:                    3.54%
  5. Brazil Federative Rep 7.125%:            2.94%
  6. Kazmunaigaz Finance 9.125%:            2.79%
  7. Republic of Indonesia 6.875%:                        2.74%
  8. Republic of Peru 6.55%:                      2.68%
  9. Republic of Lebanon 9%:                    2.62%
  10. Petronas Capital 5.25%:                       2.51%

 

PCY (PowerShares Emerging Markets Debt ETF) is based on the DB Emerging Market USD Liquid Balanced Index. This is another more actively adjusted index using a theoretical portfolio of emerging market debt instruments. The country debt is reselected annually based on a proprietary methodology. The ETF was launched in November 2007. The expense ratio is .50%, AUM is $1B and average daily trading volume is around 425K shares. Through March 2011 PCY returned 6.89%. The funds average duration is roughly 8.5 years and 47% of assets posses a credit quality of BBB with the balance mostly of a lesser rating.

Data as of June 2011

PCY Top Ten Holdings & Weightings
  1. Bulgaria Rep 8.25%:                4.26%
  2. Korea Rep 5.125%:                 2.31%
  3. Lithuania Rep 6.75%:   2.28%
  4. Vietnam(Soc Rep) 6.875%:      2.27%
  5. Hungary Rep 4.75%:               2.25%
  6. Vietnam (Soc Rep) 6.75%:       2.22%
  7. Croatia(Rep Of) 6.625%:         2.20%
  8. Pakistan(Rep Of) 6.875%:       2.20%
  9. Croatia(Rep Of) 6.75%:           2.06%
  10. Hungary Rep 6.25%:               2.06%

ELD (Wisdom Tree Emerging Markets Local Debt Fund) doesn't seem to be following an established index that we can tell. It's based on local currency issues from a variety of emerging market countries. If there's pressure on the US dollar then perhaps some country currencies will outperform adding more to returns. Naturally the opposite can be the case. The fund was launched in September 2010. ELD has an expense ratio of .55%, AUM of 875M and average daily trading volume of 327K shares. The credit quality is quite mixed with most assets greater than BBB which is unique for the category. The average duration is less than 10 years while the average yield to maturity is 5.75%.

Data as of June 2011

ELD Top Ten Country Weightings
  1. Mexico                         11.22%
  2. Brazil                            11.22%
  3. Indonesia                     11.13%
  4. Malaysia                       11.04%
  5. South Korea                 7.46%
  6. Turkey                         7.41%
  7. South Africa                 7.37%
  8. Thailand                       7.30%
  9. Poland                         7.29%
  10. Peru                             3.86%

ALD (Wisdom Tree Asia Local Debt ETF) is another offering from Wisdom Tree not tied to a particular index. Clearly the focus is to focus on Asian market debt (ex-Japan) with the idea to capture both yield and perhaps even enhanced return from local currency appreciation. This, of course, is a door that swings both ways. The fund was launched in March of 2011 and has already captured $442M in AUM with average daily trading volume of 138K shares. The expense ratio is .55%. Asset quality is quite mixed with 43% AAA and 43% Non-rated. Some of this is due to the unique nature of using forward contracts to buy securities. The average duration of the fund is between 2-7 years. The holdings data below are roughly approximate and due to the turnover in the portfolio due to forward contract rollover is hard to assess.

Data as of June 2011

ALD Top Ten Holdings & Weightings
  1. Dreyfus Instl Preferred Money Market Prime:                         9.37%
  2. Government of Singapore 1.625%:                             6.26%
  3. Government of Singapore 2.5%:                                 4.35%
  4. Government of New Zealand 6%:                                4.30%
  5. Republic of the Philippines 4.95%:                              4.18%
  6. Kingdom of Thailand 5.25%:                                        3.88%
  7. Inter-American Development Bank 4.75%:                   3.44%
  8. Malaysia: 3.43%                                                           3.39%
  9. European Investment Bank 7.25%:                              3.11%
  10. Republic of Korea 3.75%:                                            3.00%'

EMLC (Market Vectors Emerging Markets Local Currency Bond ETF) is another relatively new issue from Van Eck which is similar in theme to what we've just noted from Wisdom Tree. What distinguishes it among other things is that it's linked to and index: JP Morgan Government Bond Index Emerging Markets Global Core Index (a mouthful that's for sure).  The expense ratio is .49% and the fund was launched July 2010. AUM equal $370M and average trading volume is 132K shares. As per an interview done last fall with Van Eck their goal is to achieve yield and return using emerging market debt in local currency. The average maturity is roughly 6.5 years and credit quality is primarily investment grade with only 13% below investment grade. The YTD return has been roughly 4% and the average yield to maturity is 6.35%. 

 

Data as of June 2011

EMLC Top Ten Holdings & Weightings

1.    Transnet Ltd South Africa 10.80%                               3.32%

2.    Egypt Government 8.75%                                            3.00%

3.    Chile Government 5.50%                                             2.96%

4.    Banco do Brasil 9.75%                                                 2.45%

5.    Republic of Colombia 12%                                           2.33%

6.    Republic of Philippines 4.95%                                     2.08%

7.    Brazil Letras Do Tesouro Nacional 0%                         2.07%

8.    Poland Government 5.50%                                          1.91%

9.    Turkey Government Bond 11%                                   1.83%

10.  Republic of Colombia 7.75%                                        1.59%

Once again we've chosen to keep the list to 10 although other issues are and will continue to make their presence felt. All of this is a matter of choice for any investor. These lists remain long and sometimes quite repetitive as components vary little one to another. The real choice here remains in other factors beyond maturity risk but go to quality assessment and risk.

While the quest for yield given stock market loathing and changing demographics dominate investment preferences, investors are advised to recognize added risks inherent in high yield and emerging market debt. Even should global interest rates drop due to economic weakness this may not transfer to weaker credits as some may suffer serious declines in such an environment. I've seen this happen frequently.

As stated with other sectors, remember ETF sponsors must issue and their interests aren't aligned with yours. They have a business interest and wish to have a competitive presence in any popular sector.

For further information about portfolio structures using retail or other ETFs see www.etfdigest.com .

You may address any feedback to: feedback@etfdigest.com   

 

(Source for holding data is from ETF Database and from various sponsors.)

This commentary comes from an independent investor or market observer as part of TheStreet guest contributor program. The views expressed are those of the author and do not necessarily represent the views of TheStreet or its management.

Dave Fry is founder and publisher of ETF Digest, Dave's Daily blog and the best-selling book author of Create Your Own ETF Hedge Fund, A DIY Strategy for Private Wealth Management, published by Wiley Finance in 2008. A detailed bio is here: Dave Fry.

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