Over the course of the past few months, the central bank policies of countries across the world have become polarized. The UK has followed the example set by global powerhouse America, adopting a hardline stance that looks set to see interest rates rise in the second half of 2015. The rest of the Eurozone has imitated Japanese policy, setting themselves on a course to expand their balance sheets in an attempt to stimulate growth.
These discrepancies have caused many commentators, such as Sanlam Private Investments, to question what this means for those looking to invest in bonds…
High Yield Versus Low Yield
The differing central bank policies of major European and international powers has caused many investors to consider what this means for those looking to invest in bonds. Most have turned to higher yielding bonds as a solution, on the assumption that they will provide a robust defense against potentially damaging interest rate movement. Their reasoning is simple; high yield bonds have different characteristics to their government alternatives, and these can make them highly lucrative for those willing to shoulder the associated credit risk.
The way that high yield bonds must be assessed differs from the method adopted when considering equity. The focus shifts to the ability of companies to pay back their debt, and requires a great deal of research and knowledge on the part of those who wish to invest successfully. It is not an easy path, by any means, but for some it can prove to be extremely lucrative.
Where to Start
For those who are unfamiliar with high yield bonds, a good starting point is to identify the sectors that offer the most lucrative credit spreads. Once done, a great deal of research must be conducted to assess where the credit fundamentals of the sector look set to improve. Over the course of the last year, for example, one of the most attractive fields has been the financial industry, with a changing regulatory environment having a significant impact.
It is not only an understanding of the industry that is important, but also knowledge of the specific issuers. The successful approach their investments in an almost forensic manner, seeking out information on the company’s financial performance, bond structure and management. Each piece of this complex jigsaw is vital to identifying lucrative investments.
In such a high stakes field risk is, of course, unavoidable, and must be a burden you’re willing to shoulder. However, it is possible to minimize this, and it is only the investors who achieve this who will ultimately be successful. Risk is necessary, but excessive risk is simply foolhardy; you must be able to identify the companies who pose a risk rather different to the one perceived by the market as a whole.
Could you have the requisite skills to add high-yield bonds to your portfolio?