Junk-Bond Paranoia Gives Way to Relief in October Bargain Hunt

  • Safest high-yield securities lead rally to erase yearly loss
  • `A number of reasons not to' jump in, Bank of America warns

Feeble global growth, a fidgety Federal Reserve and a tepid earnings outlook have given junk-debt investors a lot of reasons for pause in recent months. But when a bargain shows up, you just can’t hold some of them back.

An index of high-yield bonds is on track for its best month in three years, erasing a September meltdown and leaving the gauge poised to eke out a gain for the year, Bank of America Merrill Lynch data show. It would also reverse a run of four straight monthly declines that fueled concern of mounting instability in global capital markets.

Even as companies have been reluctant to test the appetite for high-yield most of the month, money managers have seen a cash influx as investors poured back into the asset class. More than $5.3 billion has been added to funds that purchase the below investment-grade securities in the last two weeks, Lipper data show.

"The rally has largely been driven by technicals and bottom fishing," Bank of America strategists led by Michael Contopoulos said in a Friday report. "While the prospects of jumping into today’s rally may be tempting, there are a number of reasons not to."

Risk aversion has created an inversion, with safer, top-tier rated junk debt outperforming debt rated CCC and below, the index data show. High-risk debt tends to offer better returns when investors embrace a rally, and the absence of that indicates a much more selective pursuit by lenders.

The Federal Reserve has inserted itself back into investor conversations, with policy makers on Oct. 28 signaling the possibility of increasing benchmark interest rates for the first time in almost a decade at its next meeting in December.

"The markets are misreading the Fed’s comments to mean that the economy is gaining steam once again," Thomas Byrne, director of fixed-income at Wealth Strategies & Management LLC, wrote in a report this week. "I remain very concerned with the bottom of the junk-debt markets."

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