There are nearly 70 U.S.-listed exchange-traded funds focused on high-yield bonds, so you would think the industry has covered all of the angles within this particular sector. But with today’s launch of the iShares BB Rated Corporate Bond ETF (HYBB), parent company BlackRock says it’s created the first product to offer dedicated exposure to the BB-rated segment of the high-yield market.
The high-yield corporate bond category, also known as non-investment grade or, colloquially, junk bonds, spans the credit rating scale from BB+ to CCC- (or Ba1 to Caa3.) These securities are considered to have a higher default risk than investment-grade bonds. But higher risk means higher yield, which makes them attractive to income investors.
The new HYBB fund tracks the ICE Bank of America BB US High Yield Constrained Index containing U.S. dollar-denominated securities issued by U.S. and non-U.S. industrials, utility and financial corporate issuers. These have maturities of one year or more and they have $250 million or more of outstanding face value.
According to BlackRock, BB-rated bonds represented 55% of the total U.S. fixed-income high-yield market at the end of September, up from 47% at year-end 2019. It attributes that growth to the increase in bond downgrades from investment grade to high yield. As a result, the HYBB’s index recently held 1,022 bonds, a 23% increase from the end of last year.
Indeed, the Covid pandemic and subsequent lockdown’s devastating impact on the economy resulted in a slew of investment-grade bonds downgraded to junk status—a subset known as fallen angels.
BlackRock’s iShares unit already has a product focused on this subset, the iShares Fallen Angels USD Bond ETF (FALN). That fund has $304 million in assets and sports a 30-day yield that’s just a tick below 5%. As of September 30, the HYBB fund’s index had a yield to maturity of 4.75%.
But Joshua Penzner, U.S. head of institutional fixed income at iShares, said HYBB’s focus on BB issues differentiates it from the FALN fund.
“At the end of the month [after monthly index rebalancing] HYBB will be 100% BB, while FALN has a wide range of credit-rated securities [within the high-yield spectrum],” he said.
Penzner noted that BB-rated securities tend to have the best risk-adjusted returns within the high-yield space because the issuers of these bonds typically are higher quality companies with stronger balance sheets.
“Within a risky asset class, and high yield certainly can be considered riskier than investment grade, this is the highest-rated level of quality,” Penzner said. “It has an attractive income profile because it’s high yield, but it will [be] a little less volatile relative to the rest of the credit ratings in the high-yield sector.”
The HYBB fund’s expense ratio is 0.25%. According to ETFdb, the average expense ratio within the U.S. high-yield bond ETF category is 0.49%.
It seems surprising that it took a while for the ETF industry to roll out a product focused solely on BB-rated bonds, but Penzner said it’s just part of the evolution of this investment space.
“We think it represents the natural growth of the bond ETF market,” he said. “We’re starting to see the adoption of bond ETFs in general, and as that grows, investors are looking for more refined building blocks for their portfolios.”