High yield bonds now an opportunity for adventurous investors

The European high yield bond market now represents an opportunity for adventurous investors, according to Fidelity International's Ian Spreadbury. The market is now yielding 22.7% and spreads of 18.5% above government bonds are well in excess of the 10% technical definition of distressed debt.

Mr Spreadbury is portfolio manager of FIF Extra Income Fund, which has a benchmark allocation of 40% to UK and European high yield and 60% investment grade corporate bonds. He comments: "The beauty of high yield bonds is that, at times of stress in the economy or financial system, the income from a well-constructed portfolio can sometimes offset any impact to an investor's capital value.

"If we look at US high yield, a market with a lot more history than the UK or Europe, the best total returns come straight after peaks in credit spreads - reaching as high as 30-40% on a year-on-year basis. If spreads over here come down slightly investors with good name selection could see handsome returns on a twelve month horizon.

"High yield can also be an effective ‘de-risking' tool for equity portfolios. Adding high yield exposure through an equity bear market can reduce portfolio downside while leaving open good upside potential."

Clear risks remain in high yield bond markets, especially the prospect of more defaults. Some 0.7% of European issued bonds are not paying investors back compared to 3.3% of US issued ones, as Mr Spreadbury highlights, "Given the state of the economy we can expect more defaults in European high yield although one statistic offers a crumb of comfort: few high yield bonds actually mature before 2010 and most companies are well funded, so with a lot of bad news already priced into bond markets there may be a time lag before we see any meaningful rise in defaults.