Look to high yield for diversity

The U.S. high-yield market has more issuers than the investment-grade and equity markets. It also has more breadth than the S&P 500, which means investing in high yield can help investors diversify.

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So says Nicholas Leach, vice-president of Global Fixed Income and High Yield at CIBC Asset Management, and lead manager of the Renaissance High-Yield Bond Fund. “There are more than 1,000 issuers in the high-yield market, with more than 2,200 securities,” he adds. In contrast, the Canadian equity and investment-grade bond markets tend to be highly concentrated among few large companies.

Read: Stop panicking about high-yield bonds

Leach’s fund is invested in more than 200 securities across 110 issuers in the high-yield market. “The primary reason for holding so many positions is diversification, but it’s also a reflection of the high-yield market structure. As diversified as the fund is, we only have exposure to about 10% of the issuers that are in the market.”

The fund’s largest single-security exposure is around 3%, which is actually only about 1.5% overweight relative to that security’s market weight, Leach says. “Our larger positions are in the higher-quality names [because] larger issuers with higher ratings tend to be the most liquid. [But], even our largest positions are not very big bets [and] they’re safe investments.”

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Leach also diversifies within single issuers by selecting securities with different term lengths or capital structures. “We could have two bonds from one issuer: a 10-year bond and a one-year bond. And, the price behaviour of those two securities will differ as interest rates move.”

Read: Understand duration for better bond returns

Or, Leach adds, a single portfolio could have both “a highly rated secured bond and a low-rated subordinated bond from the same issuer. Those two bonds may not behave the same [when] credit spreads fluctuate.”

Read: Using short positions to boost liquidity

Such diversification tactics are necessary when investing in the high-yield market, he explains. “You will have the occasional blind side in high yield, and you want to ensure [these events] don’t have a material impact on the portfolio.”

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