Through years of the Federal Reserve easy monetary policy, high-yield corporate bonds and the related funds, including exchange-traded funds (ETFs), were beloved by income-seeking investors. Piddly yields on safer U.S. government debt prompted many investors to embrace riskier junk bonds in search of higher yields and added income.
As the current fixed-income environment confirms, high-yield bond funds are not perfect. Like any other asset class, there are risks with these bond funds.
“High-yield bonds also have their fair share of drawbacks, including a fairly high correlation with stocks,” according to Morningstar. “These bonds have a higher risk of default due to issuers’ heavy debt burdens and/or business risk.”
These bond funds are among the biggest and best among those offering exposure to high-yield corporate debt.
Best High-Yield Bond Funds: Vanguard High-Yield Corporate Fund (VWEHX)
Expense Ratio: 0.23% per year, or $23 on a $10,000 investment.
Vanguard is often thought of as a giant in the world of passive ETFs and index funds, but the Pennsylvania-based fund company has some compelling actively managed options, too, including the Vanguard High-Yield Corporate Fund (MUTF:VWEHX).
Active management, regardless of the underlying asset class, has taken its lumps in recent years due to high fees and underperformance, but there are some asset classes where active managers do benefit investors. High-yield bond funds can be examples of that theme.
Morningstar likes this bond fund’s “combination of a relatively cautious approach to high-yield investing, a strong team, and rock-bottom fees.” VWHEX is the investors shares class of this bond fund and requires a minimum investment of $3,000, but its annual fee of 0.23% stacks up favorably against rival junk bond funds.
The various share classes of the Vanguard High-Yield Corporate Fund combined for nearly $24 billion in assets under management at the end of April. This bond fund holds nearly 500 junk issues and has an average duration of 4.4 years.
Best High-Yield Bond Funds: iShares iBoxx $ High Yield Corporate Bond ETF (HYG)
Expense Ratio: 0.49%
Among bond funds, some of the largest are passively managed ETFs — and that is true when it comes to high-yield bond funds, too. The iShares iBoxx $ High Yield Corporate Bond ETF (NYSEARCA:HYG) is home to $15.37 billion in assets under management, making it one of the largest junk bond funds of any variety.
HYG holds 1,000 junk bonds and tracks the Markit iBoxx USD Liquid High Yield Index. Over 87% of this bond fund’s holdings are rated BB or B, but HYG also devotes nearly 10% to highly speculative CCC-rated debt. As is to be expected, there is compensation for that added credit risk as highlighted by HYG’s 30-day SEC yield of 5.8%, or nearly double what investors find on 10-year Treasuries.
Still, investors are skittish about high-yield bond funds this year. HYG has lost $2.04 billion in assets year-to-date, a total surpassed by just eight other U.S.-listed ETFs.
Best High-Yield Bond Funds: Prudential High-Yield Z (PHYZX)
Expense Ratio: 0.53% per year.
There are seven share classes of the Prudential High-Yield Fund (MUTF:PHYZX). The class highlighted here, the “Z” class, is one of two sporting a five-star Morningstar rating. The other five classes are not too shabby either with four-star Morningstar ratings.
This $7.04 billion bond fund devotes about three-quarters of its weight to debt rated BB and B with an almost 12% to CCC-rated bonds. However, this is an actively managed bond fund, so the management team can move out of highly speculative bonds if market conditions dictate.
On a 10-year basis, this bond fund has offered lower risk and out-performance of many of the competing funds in its respective Morningstar category. The fund’s duration is 4.1 years. This bond fund has a 30-day SEC yield of 6.1%.
As of this writing, Todd Shriber did not own any of the aforementioned securities.
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