Are High Yield Bonds Worth The Risk

Above is an article from The Edge entitled "Are high yield bonds worth the risk?"

Investors generally like to buy high yield bonds for higher returns. But the risk may not be able to justify for the risk. (Another name for high yield bonds is call junk bonds.) The risk refers to default risk of the bond, this means that the bond price could fall to zero. This means investors will have permanent loss of capital.

Companies, which refers to bond issuers, like to pay for low borrowing cost, this means low bond coupons. But generally only healthy and investment grade rated bonds are allowed to pay low coupons. Bond issuers that are highly geared or weak profitability or small in market capitalisation will need to pay for higher coupons.

However such bond issuers could have higher difficulties in paying for their coupons and principal at maturity. This is because such companies are not fundamentally strong and yet they have to pay a high financing cost. If the profit margin of their business is low, it may not be sufficient to pay for the high coupons.

Holders of Singapore-dollar bonds, already stung by the first default since 2009 (Swiber Limited), face more companies struggling to meet the terms of their debt, after two oil and gas companies sought to extend maturities.

Ausgroup and Otto Marine are among 10 Singapore-listed firms that have started a process to loosen bond vows this year, up from eight in 2015, according to Bloomberg data. That includes efforts to extend the maturity of debt and loosen covenants requiring companies to maintain certain leverage levels. 

We do not think high yield bonds worth the risk unless you have the relevant skillset. We prefer to buy investment grade bonds, which often comes from quality bond issuers. Then leverage up the bond portfolio to achieve 7% to 10% yield. The leverage yield of 7% to 10% will be similar or greater compared to the yield of a high yield bond. This means we prefer to take leverage risk rather than issuer risk.

Rationale is because leverage risk is more manageable. Leverage risk can be managed by doing loan switches or entering into interest rate link note.

You can find out more about constructing a leverage bond portfolio in the link: myasiaprivatebank.blogspot.sg/2016/10/how-does-rich-invest-in-financial.html