Gene Neavin, co-manager of the top-rated $753 million Federated High Yield Trust, divides junk bonds into two categories: the 10 percent of the market issued by metals, mining and energy companies, and the 90 percent from everyone else.
While the first group faces serious problems, the second is in surprisingly good shape, according to Neavin, whose fund has the best five-year performance among its peers. His view contrasts with bleaker forecasts from the likes of DoubleLine Capital’s Jeffrey Gundlach.
“The fundamentals are fine, credit quality is fine and defaults will be very, very low,” Neavin, 44, said in a telephone interview from Pittsburgh, where Federated Investors Inc. is based. “We think investors can earn mid to high single- digit returns in high yield this year.”
Junk bonds are mired in their deepest slump since the 2008 financial crisis, hurt by plunging commodity prices and fears that an economic slowdown in China will quash growth in the U.S. The bonds have fallen 8.4 percent since June 30, a Bank of America Merrill Lynch index shows. In the energy sector, speculative-grade debt has lost 33 percent in the same span.
Gundlach, who in early 2015 correctly foresaw tough times coming for high yield, said the bonds may be headed for a steeper selloff.
“We could be looking at a really ugly situation in the first quarter of 2016,” Gundlach told investors during a Jan. 12 webcast. “I’m not yet a buyer.” At a conference in Florida on Jan. 25, he said issuance will probably collapse with yields up and the economy struggling.
Defaults will climb in the U.S. this year and credit-market volatility could increase the chance of a recession, according to New York University finance Professor Edward Altman, developer of the Z-Score method for predicting bankruptcies.
“It is fair to say the likelihood of recession in the U.S. is much higher than just three months ago,” Altman said in a Jan. 25 conference in New York.
Investors have turned away from the asset class, pulling a net $9 billion from high-yield U.S.-based mutual funds in the fourth quarter -- the most in more than a year -- according to data from Morningstar Inc.