Choices for Opportunistic Income Include More Than High Yield Bonds
We continue to favor opportunistic income over core fixed income
Return expectations should be modest, in line with coupons (5-6%)
Periods of volatility are likely, but returns should correlate with economic growth
While corporate high yield bonds traditionally account for a large component of fixed income investment portfolios, there are many other ways to allocate assets for investors seeking opportunistic income in the taxable space. City National Rochdale takes a top-down approach when reviewing opportunities in yield-based asset classes, also evaluating alternatives to traditional investment grade bonds such as senior secured loans, asset-backed securities, and emerging market debt. Here’s a look at current conditions in some of these categories:
U.S. corporate high yield: Leverage ratios remain stable among issuers, but we have been reducing our positions based on prospects in other areas. High yield credit spreads have been range-bound for the past 15 months, but we began reducing weights and allocating to other asset classes in Q3 2017. We believe defaults and economic conditions are a greater predictor of performance for this class than a rising rate environment.
Senior secured bank loans: Yields are comparable to U.S. corporate high yield, with lower interest rate risk and higher positions in companies’ capital structures. Spreads have trended slightly downward over the past year, but because rates on these loans are floating (they are tied to the 3-month LIBOR rate), yields have risen in this asset class. Historically, default rates have been low in this space, but investors should be aware that default potential is increasing, as shown by the recent bankruptcies of Toys “R” Us and iHeartMedia. Bank loans are less impacted by rising rates – the focus is on credit analysis.
Emerging market debt: We see interesting opportunities here, in both corporate high yield and local currency sovereign debt. High growth rates in emerging market economies, combined with improved liability management and structural reforms, have led us to continue allocating capital toward this asset class. Reasonable debt levels and potential headwinds for the U.S. dollar are other reasons to consider opportunities in emerging markets.
These viewpoints and strategies are implemented through the City National Rochdale Fixed Income Opportunities Fund (RIMOX).
Alternative investments are speculative, entail substantial risks, offer limited or no liquidity and are not suitable for all investors.