Junk bonds be­gin to worry man­agers

So much so that two mu­tual fund giants are say­ing no to in­vestors.

Austin American-Statesman - - BUSINESS - By Matthew Craft AS­SO­CI­ATED PRESS

NEW YORK — The money man­ager’s job is sup­posed to be straight­for­ward: Take peo­ple’s cash and put it to work. The more money that comes in, the big­ger the man­ager’s pay­check.

So why would two of the coun­try’s largest fund man­agers tell would-be in­vestors in junk bonds, the com­mon name for bonds is­sued by com­pa­nies with the low­est credit rat­ings, to go away?

The short an­swer is that it’s for their own good. The mar­ket for junk bonds, the pros say, has be­come so pop­u­lar that it’s dan­ger­ous.

Due largely to the un­steady econ­omy, in­ter­est rates on U.S. government bonds have fallen to record lows. And in­di­vid­ual in­vestors re­main leery of the stock mar­ket. Des­per­ate for bet­ter re­turns, they’re sink­ing bil­lions into higher- paying bonds backed by busi­nesses with bad credit scores. Those deeply in­debted com­pa­nies have bor­rowed a record amount from in­vestors and are in­creas­ingly us­ing the money in ways that could strain their abil­ity to pay it back.

This year, two mu­tual fund giants, T. Rowe Price and Van­guard, be­gan turn­ing down peo­ple hop­ing to in­vest in funds that buy junk bonds.

“It’s get­ting harder and harder to find places to in­vest,” said Michael Gitlin, di­rec­tor of fixed-in­come at T. Rowe Price. He says in­vestors are get­ting paid record­low in­ter­est rates for tak­ing on much more risk.

Over the past 10 years, in­di­vid­ual in­vestors have dropped $96 bil­lion into the junk bond mar­ket, ac­cord­ing to Van­guard re­search. The bulk of it, 77 per­cent, was de­posited in the past three years.

All that money has started to change things. For a while, fall­ing bor­row­ing costs and will­ing lenders pre­vented many trou­bled com­pa­nies from sink­ing into bank­ruptcy.

But what’s good for bor­row­ers can even­tu­ally be dan­ger­ous to in­vestors. Fund man­agers and an­a­lysts now warn that the seem­ingly bound­less ap­petite for bonds has eroded lend­ing stan­dards.

Over the past year, just 2.8 per­cent of low-rated com­pa­nies have missed an in­ter­est pay­ment and de­faulted, ac­cord­ing to Stan­dard & Poor’s. That’s roughly half the long-term av­er­age. But for cor­po­rate bor­row­ers with the worst rat­ings, it’s 27 per­cent.

Gitlin and oth­ers say re­cent trends re­mind them of the easy-lend­ing era be­fore the fi­nan­cial cri­sis, when Wall Street and bond traders treated cau­tion as a sign of weak­ness.

“When you start see­ing things like you saw in ’06 and ’07,” Gitlin said, “you should be con­cerned.”

Un­cer­tainty over whether U.S. lead­ers can re­solve the bud­get dead­lock and fig­ures show­ing the eu­ro­zone’s un­em­ploy­ment rate at a record high clipped any gains in the mar­kets Fri­day.

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