reporting from Lisa Abramowicz
Exchange-traded funds that own junk bonds are attracting unprecedented sums of cash from institutional investors seeking to slip in and out of the market as dealer inventories decline.
Institutional holders own 51 percent of BlackRock Inc.’s high-yield ETF, up 11 percentage points this year, according to data compiled by Bloomberg. The portion at State Street Corp. (STT)’s fund has grown to 60 percent, a rise of 18 percentage points.
The two funds, which allow individual investors access to the junk-bond market for as little as $37.59 a share, are attracting buyers from Bank of America Corp. (BAC) to Northern Trust Corp. as primary dealers gut corporate bond holdings by 81 percent since 2007. The market shift was underscored last month, when an investor redeemed as much as $780 million shares in State Street’s fund for the equivalent amount of bonds.
“Liquidity is the main reason that we’re using high-yield ETFs right now rather than high-yield bonds,” Tim Anderson, chief fixed-income officer at RiverFront Investment Group LLC in Richmond, Virginia said in a telephone interview. “In the good old days you could call up one of the major firms and there’d be a halfway decent shot you could sell $15 million, $30 million of bonds to them on the line,” said Anderson, whose firm is the sixth-biggest institutional shareholder in State Street’s fund. “They’re not keeping the same inventories anymore.”
“ETFs have increasingly become a more viable way to express credit views,” said Eric Gross, a credit strategist at Barclays Plc in New York. “We’ve seen corporate bond liquidity go down across both investment grade and high yield.”
“As long as something like JNK or HYG is easy to trade and relatively liquid, I’m not sure why anyone would go through the hassle of chasing down all the bonds, unless they were very good at doing it,” said Chris Hempstead, director of ETF execution at WallachBeth Capital LLC in New York. “It may be an affordable way to get exposure to the bonds.”
Shrinking Inventories
Dealer holdings of corporate bonds that mature in more than a year have dropped to $44.8 billion from as high as $235 billion in October 2007, according to data from the Federal Reserve Bank of New York.
Bank of America and Morgan Stanley (MS) are among the five biggest shareholders of both BlackRock and State Street’s ETFs, accounting for $1.7 billion of the securities in both funds, Bloomberg data show. The banks are two of the 21 primary dealers that trade directly with the Fed.
“ETFs have increasingly become a more viable way to express credit views,” said Eric Gross, a credit strategist at Barclays Plc in New York. “We’ve seen corporate bond liquidity go down across both investment grade and high yield.”
Elsewhere in credit markets, Moody’s Investors Service said its Liquidity-Stress Index fell to an unprecedented 3.3 percent in May from 3.9 percent in April, the previous record low, the ratings company said today in a statement. The gauge measures the percentage of speculative-grade borrowers with the lowest liquidity rating.
High-yield, high-risk debt is rated below Baa3 by Moody’s and lower than BBB- at Standard & Poor’s.
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