U.S. high-yield bonds could post investment returns in the high single digits to the low double digits this year after their record 58 percent return in 2009, Pimco, the world's biggest bond fund, said in a new report.
With yields still attractive and the risk of a financial system collapse largely in the past, "we believe investors can capture attractive yields and excess spread in the high-yield market with relatively low default risk," Andrew Jessop, high-yield portfolio manager at Pacific Investment Management Co, said in a note on the company's Web site.
High-yield bonds also look attractive compared with equities, which typically depend on faster growth to perform well at this point in the economic cycle, Jessop said.
However, Pimco's forecast is that slower economic growth will become the "New Normal" amid broad deleveraging trends, increased regulation and deglobalization, he said.
"In that environment, many investors believe equities could continue to underperform high-yield" bonds, he said.
High-yield or junk bonds were the top-performing fixed-income asset in 2009 as their prices recovered from a sharp sell-off caused by the global financial crisis in 2008.
Now that prices have rebounded, coupon income will be the dominant source of high-yield returns in 2010, Jessop said.
Year to date, junk bonds have returned about 1.4 percent, according to Merrill Lynch indexes. Yields have declined to about 9 percent from over 22 percent during the credit crisis in 2008.
Pimco is finding opportunities in higher-quality, or double-B-rated, high-yield bonds, Jessop said. Many issuers of these bonds have refinanced debt coming due over the next two to three years and are positioned to survive in a slower growth economy, he said.
"These companies are offering potentially attractive returns compared to investment-grade corporate bonds without significant increases in default expectations," he said.
Some of their bonds could also benefit from ratings upgrades to investment grade over the next 12 to 18 months, he said.
Pimco also expects to buy select lower-quality bonds from issuers who can deleverage their balance sheets, he said.
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