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Puerto Rico Debt Worries Loom: 2 ETFs To Watch

While Greece recently defaulted on its payments to the International Monetary Fund, America’s island Puerto Rico has managed to avert a last minute July 1 default giving some relief to its creditors. The island has paid back $645 million of general obligation bonds along with a $415 million installment from the troubled Puerto Rico Electric Power Authority (PREPA). Moreover, Puerto Rico has paid back a short-term bank loan of about $245 million. Though the last minute payment has helped the island to buy some time to negotiate with its creditors, it still has a huge debt load to repay in the coming months and years. In fact, the island has a massive debt load of $72 billion amassed by the government and its agencies. The government owned utility company – PREPA – is crippled by debt and is in talk with creditors to renegotiate its $9 billion of debt. Though Puerto Rico has managed to avert the default, Moody’s Investors Service has cut about $56 billion of Puerto Rico’s other bonds into junk category . The island has been in recession for nearly a decade and there are meager chances of its paying back its debt. This is especially true as many residents of the island are moving to the mainland U.S. in search of better job opportunities which further reduces the island’s tax base. The island’s debt problems also have a significant bearing on the financial market and the investor community, given the fact “estimated in 2013 that 180 mutual funds in the United States and elsewhere have at least 5% of their portfolios in Puerto Rican bonds,” as per investment research firm Morningstar, in a report for USA Today . Apart from mutual funds, a lot of ETFs also have exposure to Puerto Rican debt. Below we have highlighted two ETFs which have significant exposure to Puerto Rican bonds. SPDR Nuveen S&P High Yield Municipal Bond ETF (NYSEARCA: HYMB ) The fund tracks the S&P Municipal Yield Index, measuring the performance of high yield municipal bonds issued by U.S. states and territories or local governments or agencies. Puerto Rico takes the second spot with 10.45% exposure in the fund, ahead of California which has 12.7% allocation. The fund has a portfolio of 432 bonds with an average maturity of 19.74 years and a 30-day SEC yield of 4.60%. Sector-wise, Industrial Revenue takes the top spot with 28.3% allocation, followed by Healthcare and Special Tax each with double-digit exposure. The fund manages an asset base of $393.5 million and trades with moderate volume of 75,000 shares a day. The ETF currently has a Zacks Rank #4 or Sell rating. Short High-Yield Municipal Index ETF (NYSEARCA: SHYD ) The fund tracks The Barclays Municipal High Yield Short Duration Index giving exposure to the high-yield municipal bond market. The fund holds a total of 328 bonds with a modified duration of 3.96 years and a weighted average maturity of 7.23 years. SHYD has a 30-day SEC yield of 3.39%. Puerto Rico has 4.5% weightage in the fund. Sector-wise, Industrial Revenue takes the top spot with a little more than one-third assets, followed by HealthCare (22.6%) and Transportation (10.1%). The fund manages a small asset base of $105.4 million and trades with low volume of less than 30,000 shares a day. SHYD also has a Zacks Rank #4. Original Post

Examining Your Fund’s Puerto Rico Exposure

Summary Puerto Rico is scaring investors on fresh default concerns. High-yield municipal bonds are fluctuating on the heightened risks. Focus on three high-yield muni ETFs. By Todd Shriber & Tom Lydon Greece or Puerto Rico, investors have their pick of default poison, but investors in fixed-income, exchange-traded and mutual funds would do well to monitor goings-on in Puerto Rico because the U.S. territory’s imminent default could affect some well-known municipal bond funds. So dire is the situation in Puerto Rico, Gov. Alejandro García Padilla told the New York Times over the weekend that government finances there are “in a death spiral.” And $72 billion is not chump change. To put $72 billion into context with a catchy anecdote, that is more than twice the market capitalization of General Mills (NYSE: GIS ). Puerto Rico’s debt woes are important to fund investors because an “estimated in 2013 that as much of 80% of Puerto Rico’s debt has found its way into muni-bond funds, and 180 mutual funds in the United States and elsewhere have at least 5% of their portfolios in Puerto Rican bonds,” Alan Gomez reports for USA Today , citing Morningstar data. “Last week, the general obligation (GO) debt had plumbed new depths, helping to record a negative 5% month-to-date return for the S&P Municipal Bond Puerto Rico General Obligation Index. According to JR Rieger, global head of fixed income for S&P Dow Jones Indices, the facts are the situation isn’t looking good: the pending Puerto Rico Electric Power Authority July 1st default looms on the market, the possible restructuring of the Government Development Bank debt and the possible postponement of G.O. set – asides have sent alarms to G.O. bond holders,” said S&P Capital IQ in a new research note. The $1.6 billion Market Vectors High-Yield Municipal Index ETF (NYSEARCA: HYD ) lost 1.4% Monday . That ETF has a Puerto Rico weight of just 3.2%, making the territory the fund’s tenth-largest geographic weight. The $396.8 million SPDR Nuveen S&P High Yield Municipal Bond ETF (NYSEARCA: HYMB ) lost just 0.8% yesterday despite a Puerto Rico weight of over 13%, making the territory HYMB’s largest geographic weight. The shorter-duration Market Vectors Short High-Yield Municipal Index ETF (NYSEARCA: SHYD ) was unchanged Monday even with a 4.5% weight Puerto Rican munis. Some actively-managed mutual funds have significantly larger Puerto Rico exposure than the ETF rivals. “Oppenheimer Rochester Fund Municipals (MUTF: RMUNX ), an actively managed mutual fund has 77% of its assets in NY state bonds, but most of the rest of the assets is in Puerto Rico bonds. Similarly Oppenheimer Rochester New Jersey Municipal Fund (MUTF: ONJAX ) has 29% of assets in bonds issued by Puerto Rico, despite what some New Jersey residents might expect,” according to S&P Capital IQ. SPDR Nuveen S&P High-Yield Municipal Bond ETF (click to enlarge) Tom Lydon’s clients own shares of HYD. Disclosure: I am/we are long HYD. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Best High-Yield Bond Funds For 2015 – Part 3

Summary HYD has a higher yield and lower credit quality. HYMB has higher credit quality and better total return history. HYMB has large exposure to California. In part one , we compared the two largest high-yield bond funds: iShares iBoxx $ High Yield Corporate Bond (NYSEARCA: HYG ) and SPDR Barclays Capital High Yield Bond (NYSEARCA: JNK ). In part two , we compared two short-term high-yield bond funds: PIMCO 0-5 Year High Yield Corporate Bond (NYSEARCA: HYS ) and SPDR Barclays Short Term High Yield Bond (NYSEARCA: SJNK ). In part three, we will look at the offerings in the high-yield municipal bond space: SPDR Nuveen S&P High Yield Municipal Bond (NYSEARCA: HYMB ), Market Vectors High-Yield Municipal Index (NYSEARCA: HYD ) and the much newer Market Vectors Short High-Yield Municipal Index (NYSEARCA: SHYD ). Index & Strategy HYD tracks the Barclays Municipal Custom High Yield Composite Index while HYMB tracks the S&P Municipal Yield Index. HYD was created in February 2009, HYMB in April 2011. These two funds have a correlation of 0.9836. On the expense ratio, HYMB has an asterisk because it is currently subsidized through October 31, 2015. Without the subsidy, the expense ratio would be 0.50 percent (the yield would also dip 0.05 percent). On volume, HYD’s price is half that of HYMB, so dollar volume is about three times higher for HYD. HYD has a higher yield, lower expenses and longer average duration. As we’ve seen when comparing other high-yield ETFs, total returns have favored the funds with shorter durations, lower yields and higher credit quality. As for the latter, HYD has 30 percent of assets in BBB rated debt; 22 percent in BB; and 17 percent in B. HYMB has superior credit quality, with 21 percent of assets in A rated debt; 22 percent in Baa; and 33 percent below Baa. Both portfolios have about one-quarter of assets in unrated debt. Both funds give a geographic breakdown of their assets as well. HYMB has 14.2 percent of assets in California, while HYD has only 8.9 percent in the state. HYMB’s next largest state is Texas, with 7.5 percent of assets, while HYD’s second largest holding is NY with 8.5 percent of assets. One other option out there is Market Vectors Short High-Yield Municipal Index. The fund tracks the Barclays Municipal High Yield Short Duration Index. It has an expense ratio of 0.35 percent and a yield of 3.10 percent. It has a duration of 4.17 years. The fund is overweight Texas, at 10.5 percent of assets. Credit quality is 48 percent in BBB rated debt; 16 percent in BB; 10 percent in B; and 2 percent in CCC. It has higher credit quality than HYD. The fund has only $80 million in assets and trades about 20,000 shares per day. SHYD had only one year of history, with an inception date in January 2014. Performance The price ratio chart of HYD and HYMB shows HYD in a persistent downtrend, signifying under performance. However, there are two clear periods when HYD outperformed: summer 2011 and summer 2013, while under performing in July 2014. (click to enlarge) Summer 2011 was a period when investors worried about sovereign debt in the U.S. and Europe, getting to the point where people were discussing a U.S. Treasury default. In summer 2013, Detroit declared bankruptcy , while in summer 2014, Puerto Rican bonds sold off sharply. This shows that the portfolios have deviated substantially when volatility increases. A performance chart shows that only the Detroit bankruptcy led to significant price declines. (click to enlarge) Income HYMB has a 30-day SEC yield of 3.83 percent versus HYD’s 4.31 percent yield. As has been the case with other high-yield funds, falling interest rates have weighed on the fund’s payouts. (click to enlarge) Risk & Reward Compared to the Barclays Municipal Index, HYD has a beta of 1.50 and HYMB has a beta of 1.61. Investors are taking on more market risk with these funds as compared to aggregate muni bond funds and the beta reflects this. The Barclays Municipal Index has a standard deviation of 3.72. HYD has a standard deviation of 6.24 and HYMB a standard deviation of 6.42. These standard deviations are higher than any of the junk bonds previously covered in parts one and two. This is due to the volatility surrounding Detroit’s bankruptcy in 2013. High-yield corporate bonds have enjoyed a smoother ride over the past three years and this is reflected in their lower standard deviation. Bloomberg’s ranking of states by their underfunded pensions shows a wide gap between the states when it comes to financial management. Between HYD and HYMB, the one state that sticks out is California. While most state exposure is similar, California accounts for 5 percentage points more of HYMB’s assets. Investors with a strong opinion on California’s long-term finances can opt for one fund over the other, but for other states, single state exposure is not as large a concern. Conclusion Municipal debt is not out of the woods because unfunded liabilities will eventually become a public debt if the municipality doesn’t go bust first. In the long-run, that favors HYMB’s superior credit quality-assuming California isn’t one of the problem states in the future. As for 2015, municipal bonds appear to be in good shape. Investor interest in municipal bonds recovered in 2014 after a drop in 2013. The Federal Reserve Z1 report shows municipal debt was $2.999 trillion in 2009, and as of Q3 2014, that number fell to $2.908 trillion. State and local governments have been slowly repaying their debt, leaving many states in a stronger financial position than they were six years ago. Liabilities such as unfunded pensions are a concern in states that haven’t addressed the problem, but overall the supply of muni debt has stayed constant as the economy has grown. While the municipal bond market looks attractive next to corporate junk bonds in terms of risk/reward, PIMCO 0-5 Year High Yield Corporate Bond (covered in part two) appears more attractive for 2015 given it has declined since the summer along with high-yield corporate bonds. If the economy stays strong in 2015, HYS is likely to recover and deliver some capital appreciation. It lacks energy exposure, which could struggle if the U.S. dollar continues its rally in 2015, and that could help it beat other high-yield bonds funds this year.