UK - Schemes should allocate more to high yield or junk bonds to boost returns and reduce risk in their portfolios, fund managers claim.
They fear many investors are still reticent about investing in junk bonds – rated at double-B or below by rating agencies – despite the increasing trend towards corporate bonds.
They say this is because junk bonds are still seen as a high-risk investment, especially in the wake of falls at Marconi, WorldCom and British Airways, which were considered investment grade or safer.
But Merrill Lynch Investment Managers says the typical yield on junk bonds is 10.4%. And it believes this will continue due to a combination of low inflation and the slowdown in the number of credit defaults.
Portfolio manager Joanna Howley said: “This market suits the high yield bond sector.
“Firms have made the necessary cutbacks, rid themselves of fat and many are even paying off debt. With this background it would take a severe, sustained downturn before defaults increase.
“In addition, high quality bonds continue to reap the benefits of low interest rates and equity market uncertainty driving investors to seek alternatives to shares.”
Threadneedle Investments executive director fixed income strategy Laurence Mutkin agreed.
He said: “There are two good reasons to invest in high yield. The first is that returns are quite high on the whole.
“Secondly, it is an asset class that is uniquely placed because its correlation with both equities and government bonds is too small to be statistically significant. All the returns come from the coupon, which means it has an extremely stable return flow.”
Investec Asset Management head of credit Michael Markham added: “Double-digit returns are not unrealistic for investors, and because the default rate peaked at the end of 2000, the default rate has fallen reasonably steadily.
“That trend is likely to continue, and the vintage of bonds now are much better than the vintage that came out in 2000.”
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