What Junk Bond Spreads Are Saying About ETFs And Risk

While a recovery in the markets and exchange traded funds (ETFs) appears to be taking place, there are still some signs in the market that may prompt some caution on the part of investors.

Dena Aubin for Reuters explains that risks of continued high defaults and massive refinancing needs of many corporate borrowers are keeping credit spreads high, especially on high-yield bonds. This signals that the economy isn’t exactly in the clear.

Bond prices are still priced for “near recession,” one researcher says. Spreads reflect a default rate of 9%, which the researcher says would put growth in the 0% to 1% range.

High unemployment rates and consumer debt may keep the economy anchored for awhile longer, and economists polled by Reuters last week said the economy is recovering more strongly than previously expected. Next year, however, could be lackluster and risks of a double-dip downturn remain.

Spreads would typically have to reflect a default rate more within the normal range of about 5% to signal an economy growing more than about 1.5 %, according to one analyst.

• SPDR Barclays Capital High Yield Bond (JNK): up 23.5% year-to-date

• iShares iBoxx $ High Yield Corporate Bond (HYG): up 16.1% year-to-date

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