Junk-rated loan funds have seen $8 billion of inflows this year, the most since 2018 as investors reach for yield

Traders nyseBrendan McDermid/ReutersTraders work on the main trading floor of the New York Stock Exchange March 21, 2007.
  • Investors continue to reach for yield as interest rates remain at near rock-bottom levels.
  • Leveraged loan funds saw $US8.8 ($11) billion in inflows so far this year, the most since 2018 and a stark contrast from the $US26 ($34) billion in outflows last year.
  • Investors piling into the funds are likely betting that interest rates will continue to rise, as they offer a floating yield and are less price sensitive than junk bonds to interest rate increases.
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Investors are piling into risky leveraged loan funds as they continue to reach for yield amid a historically low interest rate environment.

Mutual funds and ETFs that invest in leveraged loans, a form of secured debt that offers investors floating yields, saw $US8.8 ($11) billion in inflows so far this year, according to data from Refinitiv Lipper first reported by The Wall Street Journal.

Those inflows represent the most since 2018, and are a stark contrast to the $US26 ($34) billion in outflows the space saw last year, as well as the $US3.7 ($5) billion in outflows from junk bond funds so far this year.

The shift in investor positioning comes as interest rates begin to bounce off of historic lows seen amid the COVID-19 pandemic. The yield on the 10-year US Treasury note has risen to a pre-pandemic high of 1.64% so far this year, as investors start anticipating a fed funds rate hike as the economy heats up.

Leveraged loans are loans backed by companies with below investment grade ratings that also tend to have already high debt burdens. The loans are often secured by business assets, meaning if the company goes bankrupt, holders of the secured debt will be first in line to collect amid bankruptcy proceedings.

The yield of senior loan funds often rises as short-term interest rates rise, meaning the loan prices are less sensitive to rising interest rates.

But the surge in demand for leveraged loan funds has also allowed companies to tap the debt markets at favorable borrowing costs. Recent companies issuing new senior loans include GoDaddy and Churchill Downs, according to The WSJ report.

In fact, corporate issuance of secured debt has been through the roof, with more than $US58 ($75) billion sold during the first two months of the year, accordin gto data compiled by Barclays and reported by The Wall Street Journal, representing the strongest start to a year since 2013.

Whether the Fed can contain investor jitters over rising interest rates will be put to the test as they hold their upcoming meeting on Wednesday, which can have a direct impact on further bond fund flows.

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