State Street Introduces International Junk Bond ETF

Bond investing in the U.S. was down last year on a global sell-off thanks to the Fed’s taper concerns and the resultant rise in long-term interest rates. The trend should remain the same this year too, as the Fed finally started on its QE pullback process. In such a backdrop, yield-hungry investors focused on junk bonds have turned their focus to the international market.

In most developed international markets, interest rates remained extremely low thus posing no threat to bond prices. Also, the economic picture is steadily improving in Europe and Japan, thus reducing the risk of corporate defaults (read: Fed Tapers Bond Purchases: 3 ETFs in Focus on the News).

Notably, Europe’s high-yield corporate bond market saw a thriving 2013 hitting a record high of $141.2 billion in high-yield volume. Seeing this trend, State Street Global Advisors – the second largest ETF Issuer – put forward a high-yield bond ETF in the international space. This newcomer– SPDR Barclays International High Yield Bond ETF – hit the market on March 13 and trades with the ticker symbol ‘IJNK’.

Notably, the issuer had earlier witnessed success in the U.S. junk bond space with its product SPDR Barclays Capital High Yield Bond ETF (JNK).

IJNK in Focus

The new passively managed ETF looks to track the Barclays Global ex-US Issuers High Yield Corporate Bond Index which seeks to resemble the high yield fixed corporate bonds outside the US with maturity of more than a year. The securities included in the index should have a minimum market value of $350 million (₤210 million).

As of February 28, the index includes a total of 718 securities from 46 countries. The security-specific concentration risk is very low in the index with no security accounting for more than 0.45%. Corporate sector wise, industrials takes up the major share of the index with more than three-fourth weight of the basket while financials and utilities occupy respectively around 20% and 5% of the portfolio.

These component bonds are all junk bonds which have an average rating of Ba1/BB+/BB+ out of the three major credit rating agencies. IJNK opts out floating rate notes, linked bonds, convertible bonds, warrants and other structured offerings. The ETF charges investors a reasonable expense ratio of 0.40% (see all the junk bond ETFs here).

Index offers an average yield to worst of 5.10%. The product has effective average maturity of about 5.37 years and proposes weighted average coupon of 6.71%. Investors should also note that the products carry default risks since these do not possess very high credit ratings.

How could it fit in a portfolio?

Investors looking for an international fixed-income play thanks to the low interest rate environment in regions like Europe and Japan should consider these products. The product has been designed to earn high yield in a rock-bottom interest rate prevailing there (read: Van Eck Launches International High Yield Bond ETF (IHY)).

With the Fed ready to accelerate its QE tapering in the U.S., interest rates will likely rise over the longer term marring the appeal for bond investing in the U.S. market. In such a scenario, being in international bond market looks great at the current level. International high-yield bonds made up 44% of the international junk bond market in 2012, up from 11% in 1997, according to data from BofA Merrill Lynch.

ETF Competition

The international junk bond ETF space is not too crowded with only a handful of other products already available in the space. These are Market Vectors International High Yield Bond ETF (IHY), Global ex USD High Yield Corporate Bond Fund (HYXU), Global High Yield Corporate Bond Fund (GHYG) and PowerShares Global Short Term High Yield Bond Portfolio (PGHY) (read: PowerShares Launches Global Junk Bond ETF).

Among them, HYXU, GHYG and IHY returned about 2.04%, 1.08% and 0.92% (in the year-to-date frame), respectively, versus 1.07% return offered by the largest U.S. junk bond ETF iShares iBoxx $ High Yield Corporate Bond Fund (HYG). Almost in-line or even bigger return awarded by international bond ETF than that of the U.S. ETF should pave the way for asset generation of IJNK.

The newly launched IJNK’s expense ratio and yield are in line with the fees charged by its other international cousins. Thus, on expense and yield fronts, the fund should not face any hurdles for accumulating assets. Macro dynamics are in favor of international junk bond space which should prepare State Street to see another wave of success with this new product, especially if interest in international bond investing picks back up this year.

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