‘Anomalies' offer high returns on low-grade bonds

They believe cautious stock-picking among triple-B grade bonds in a generally poor investment climate can bring outperformance in the asset class.

Research by investment consultant Jagger & Associates shows that current yields on triple-B grade bonds range between 4.5% and 14.5%, with an average yield of 6.5%.

Director Simon Jagger said investors had to ask themselves whether the bonds with the highest yields were “basket-cases” that were about to downgrade to sub-investment grade bonds, or whether the market had got it wrong and that they were in fact bargains.

Fidelity Investments fixed income marketing manager Gavin Boyd agreed that there were valuation anomalies in the asset class. But he said that stock picks should only be taken after strong research into the fundamentals and management of the company offering the bond.

He said that while there was typically much caution about the downgrading of triple-B bonds in times of economic uncertainty, companies were “fighting like mad to keep their ratings”.

He explained: “Rather than focusing on capital expenditure, they are going to put their profits and proceeds into debt reduction.”

Barclays Global Investors, though, was pessimistic about the asset class.Senior credit portfolio manager Andrew Wynn said: “One of the things you saw in the 1990s was that a good economy could bail out a lot of bad credit.

“People would hunt the yield and buy triple-B regardless, but now there is a huge increase in event risk.

“Concerns over accounting with Enron have added uncertainty and there have been significant ratings downgrades.”

He saw bonds issued by companies in cyclical industries, such as car manufacturers and telecommunications as having a “huge” risk from downgrades, while identifying those in non-cyclical industries, such as food manufacturers as being the most safe.

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