The current state of the stock market has some investors concerned about a potential crash and recession, despite hearing similar predictions for a while without them coming to fruition. While the timing of a recession is uncertain, it is important to consider assets beyond stocks and minimize cash holdings, which are being impacted by inflation. Corporate bonds, specifically bond-focused closed-end funds (CEFs), are emerging as a timely investment option with many offering yields of over 8%.
There are three key reasons why corporate bonds are attractive investment opportunities at the moment. Firstly, bond yields have surged along with interest rates, with high-quality bonds now yielding over 5%, compared to around 2% in the previous decade. Despite the higher borrowing costs, bankruptcy rates among businesses remain low, indicating firms can manage their debt obligations without issues. This has resulted in only 0.22% of US companies going bankrupt, lower than pre-COVID levels.
Investing in corporate bonds through CEFs presents an appealing option for investors. These funds offer yields of over 8% and generally trade at discounts to their net asset value (NAV). While some popular funds may trade at premiums, there are also opportunities to invest in funds trading at discounts, providing potential for higher returns. For example, the PGIM Short-Duration High Yield Opportunities Fund (SDHY) is currently trading at an 11% discount and offers an 8.4% income stream.
By investing in funds like SDHY, investors can benefit from the income stream while also potentially profiting from the discount narrowing over time. This approach may offer better long-term returns compared to pricey funds trading at premiums. Additionally, the bond focus of funds like SDHY provides diversification and the potential for a strong total return even in the face of short-term stock market volatility. Investors can also gain confidence in their investments by avoiding overpriced funds that may experience significant price drops.
Overall, corporate bonds, particularly through CEFs, are presenting a compelling investment opportunity in the current market environment. With bond yields at historically high levels and businesses managing their debt obligations effectively, investing in these assets can provide attractive income streams and potential for capital appreciation. By carefully selecting funds that trade at discounts and offer solid income streams, investors can position themselves to benefit from the current market conditions while managing risks effectively.
