In recent months, high-yield ("junk”) bonds have become more attractive. A year ago, the "spread"between junk bonds and Treasury bonds was only 2.7 percent, a historic low. Thus, if Treasuries were paying 5 percent, a junk bond of similar maturity was yielding 7.7 percent.
Now, spreads have increased to more than 8 percent. At an 8 percent spread, investors may decide that it’s worth the risk of investing in low-rated bonds. Historically, investing in high-yield bonds when spreads over Treasuries are above 8 percent and selling when spreads drop below 4 percent has provided an average annualized return of 15.5 percent. This occurred in both 1990 and 2000; both periods lasted about four years.
If you are interested, how might you invest?
* Mutual funds. The average high-yield bond fund now pays 8 percent. You can get slightly higher yields from Northeast Investors and T. Rowe Price High-Yield, two funds favored by Morningstar.
* Closed-end funds. Closed-end high-yield bond funds, which are listed on stock exchanged, now trade at a discount to the bonds’ value. This can offer even higher yields to investors. BlackRock High-Yield (NYSE: COY) and Credit Suisse High-Yield Bond (AMEX: DHY) funds now yield around 10 percent and 11 percent, respectively.
