The iShares Broad USD High Yield Corporate Bond ETF (BATS:USHY) has its advantages and decent performance compared to peer funds, though the mid-term outlook doesn’t look appealing for investing in high-yield bonds from a risk/reward perspective.
The current credit spreads suggest that the high-yield segment of the bond market is priced for a quite optimistic economic scenario, which is not quite well-supported by the latest economic data.
Even though it’s hard to fully dismiss high-yield bonds as a possible speculative option in the bond market, investors should proceed with caution and bear in mind the risks related to investing in USHY and similar high-yield bond ETFs. In this regard, I assign a “Hold” rating to the USHY ETF.
USHY ETF Overview
According to the fund description, the iShares Broad USD High Yield Corporate Bond ETF seeks to track the investment results of an index composed of U.S. dollar-denominated, high-yield corporate bonds.
The current 30-Day SEC Yield of USHY is 8.74%, which is an approximate yield investors can get over the course of a 12-month period. In the meantime, the weighted average maturity is 4.82 years, quite a lot in a volatile bond market environment. For comparison, the short-term treasury TBLL ETF I recently covered on Seeking Alpha, has a 30-Day SEC Yield of 5.30%. Thus, you get only a 3.4% premium for a much higher credit and maturity risk compared to “risk-free” short-term treasuries if you hold USHY for the next 12 months.
As for the credit rating, the majority of bonds USHY ETF holds have a “BB” and “B” rating, and around 12% of the holdings have an even lower credit rating.
Two key advantages the USHY ETF can boast are low expenses and broad diversification. The Expense Ratio for USHY is just 0.15%, or 0.22% without the fee waiver expiring on February 29, 2024.
Compared to peer funds, the USHY ETF has demonstrated a respectable though not the best performance.
At the same time, the future estimated performance still favors USHY if we once again turn to the 30-Day SEC Yield:
- USHY 8.74%
- BSJS 8.65%
- HYDB 8.57%
- FLHY 8.56%
However, the difference is clearly marginal and therefore shouldn’t be a main consideration for picking one of the mentioned ETFs. Diversification is where USHY clearly stands out:
The USHY ETF is far more diversified than its peers, which is particularly useful for risk management in the high-yield segment.
Not Priced For A Recession
Just in a span of two years, central banks around the world have rapidly switched from a “lower for longer” to a “higher for longer” approach. The latest hiking cycle has been the fastest one in modern US history:
Deutsche Bank analysts note that seven out of the last 13 Fed hiking cycles have led to a US recession, typically occurring between 19 and 28 months into the cycle. Currently, it’s been 20 months since the first Fed hike.
Credit spreads typically rise sharply during recessions, yet they currently remain significantly lower. Fed Funds futures suggest no major rate cuts are expected until next summer:
Meanwhile, US bankruptcy filings are poised to surpass the 2020 levels, second only to the 2010 peak:
The key question for investors in high-yield bonds is whether the US economy can withstand another year of high rates without entering a recession. Personally, I’m not as optimistic as some analysts.
Why To Pick And Why To Avoid The USHY ETF
Why To Pick:
- If you want a diversified exposure to the high-yield bond segment with a superior yield compared to peer funds;
- If you expect a “soft landing” of the US economy without a wave of defaults in the high-yield bond segment;
- If you prefer higher yields even at the cost of higher risks;
Why To Avoid:
- US companies may struggle in a high-rate environment, leading to a wave of defaults;
- Credit spreads usually skyrocket during recessions, imposing significant losses for investors in high-yield bonds;
- US treasuries offer a competitive yield with substantially lower risks.