Thinking about investing in junk bonds? Even if you are not, you could still benefit from knowing what junk bonds are. It is important to have a vast knowledge of all types of different investment vehicles. Even the riskier ones.
Junk bonds are perceived to be riskier than other types of debt, they typically trade at higher yields—that is, higher rates of return—than investment-grade bonds. Junk bonds are typically issued by a company seeking to raise capital quickly in order to finance a takeover.
Junk bond have a credit rating of BB or lower. Companies whose bonds are rated as ‘investment grade’ have a lower chance of defaulting on their debt than those rated as ‘non-investment grade’. Generally, these bonds are issued by long-established companies with strong balance sheets. Bonds rated BBB or above are known as Investment Grade Bonds.
Bond investors of all stripes are piling into junk bonds – including bond investors, stock investors, and retail investors. Bond investors are investing because they are avoiding the low yields of U.S. Treasury debt while stock investors are investing because they are seeking protection from swings in the market.
However, neither U.S. Treasury bonds nor investment-grade bonds are expected to deliver meaningful returns this year, fund managers say.
Junk Bond Yields
The yield on junk bonds is historically between 4-6% above Treasuries. If you notice the yield spread shrinking below 4%, then it probably isn’t the best time to invest in junk bonds. High-yield spreads are used by investors and market analysts to evaluate the overall credit markets.
Higher spreads indicate a higher default risk in junk bonds and can be a reflection of the overall corporate economy (and therefore credit quality) and/or a broader weakening of macroeconomic conditions. The higher current yields of junk bonds reflect their greater risk of default to the investor than investment-grade bonds or in this case U.S. Treasuries.
Junk bonds occupy a middle space between stocks and investment-grade corporate bonds. They are riskier than invest-grade corporate bonds but less risky than stocks.
They may not be the right fit for most investors, but if you are a little risky then you might want to venture if this investment vehicle is the right fit for you.
Personally, your typical millennial investor would not dabble with junk bonds. They would likely have the bulk of their finances tied up in investment apps or their employer-sponsored retirement account and contributing to an IRA.
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