High yield bonds still offering good value

Most managers of high yield bond funds believe the sector offers decent value despite euro and US high yield spreads tightening by more than 1,000 basis points, according to S&P Fund Services in its latest annual review of high yield bond funds.

The recovery in high yield markets this year has erased the losses of 2008. Many fund managers reported retail investors had also been timelier with their entry into the market, with strong inflows at the start of 2009 and during the first quarter.

Inflows into the asset class are now beginning to slow.

One of the more interesting theme emerging over the review period – the 12 months to the end of July 2009 – was the incorporation of subordinated financials into high yield indices following a wave of downgrades in early 2009.

Subordinated financials account for 12% of the US high yield universe and between 25%-33% of euro high yield indices. Stripping them out of the benchmark would take off around 10% of performance in euro high yield.

For some manager, the potential total return payoff at the start of the summer outweighed fears about coupon deferral. Strong price performance in recent months makes this more of a balanced call.

Some managers believe that following a year of beta driven gains, the market will become more discriminating with performance driven by security-specific portfolio risks.

Henderson New Star's Bernard and co-manager John Patullo believe that against the backdrop of government borrowing, some investors may be underestimating duration risk.

They are wary of gilts and gilt-sensitive corporate bonds, instead preferring to take credit risk in lower rated corporate bonds.