Value Line’s Corporate High-Yield objective group is made up of mutual funds that invest in low-rated corporate bonds in pursuit of high current income. These bonds are often referred to as “junk,” though that name’s implications are, overall, more negative than this segment of the market deserves. Below-investment grade is another term often associated with these types of bonds. Typical names in this objective group include high-yield or high-income, though some use below-investment grade. Many funds here have a secondary objective of capital appreciation.

The term high yield is derived from the fact that investors tend to demand a higher yield as the credit quality of a debt issuer moves lower. There are several bond rating agencies that are often referenced to determine the credit quality of a bond and, thus, if a bond is appropriate for inclusion in a high-yield fund. Each agency has its own methods for rating and scoring the quality of a bond, though each has a clear demarcation between debt issued by a high-quality borrower and a lower-quality borrower. Funds will usually spell out in their prospectus which agency or agencies are used to assess credit quality. That said, funds here also invest in bonds that are not rated by any agency, assuming that the fund manager’s analysis suggests that the bond is worth owning. Some funds may hold bonds that are at the lower rungs of investment-quality debt. 

High-yield bond funds are in their own objective group because they often trade differently compared to higher-quality corporate bonds.  Indeed, factors specific to the issuing company of a high-yield bond are likely to have a larger impact on a high-yield bond’s price than interest rate changes and duration, which is not true of most bonds. This often results in high-yield bonds performing more like stocks than high-quality corporate or government debt securities.

Over the long term, the Corporate High-Yield objective group has been a below-average performer relative to the broader bond market, as measured by the Barclays High Yield Bond index.  For the 10-year period ended April 30, 2012, the group had an annualized return of 5.7%, while the Barclay’s High-Yield index reported an annualized return of 9.5%.  Over the trailing five- and three-year periods, the group had gains of 3.5% and 13.9%, respectively, while the Barclay’s High-Yield index reported gains of 8.7% and 19.7%, respectively.  In the trailing 12 months ended April 30, 2012, the Corporate High-Yield group reported a return of 3.0%, compared with a stronger return of 5.9% for the Barclays High-Yield index.  The Corporate High-Yield objective group has a higher-than-average Risk Rank of 4, indicating that this group might appeal to investors with greater risk tolerance.  That said, investors with a longer time horizon might invest in high-yield bonds as part of a diversified portfolio. 

Year to date through April 30, 2012, the Corporate High-Yield objective group has performed moderately well, with a 5.6% return, compared to the Barclays High-Yield Bond index, which reported a 6.4% return for the same period. 

One fund with a good relative year-to-date return is Waddell & Reed Advisors High Income Fund A (UNHIX). This fund seeks to provide total return through a combination of high income and capital appreciation.  

The fund invests mainly in a diversified group of high-yielding, high-risk, fixed income securities, including loan participations and other loan instruments, of U.S. and foreign issuers. The fund may invest in fixed-income securities of any maturity and in companies of any size. Management invests primarily in debt securities rated BBB+ or lower by Standard & Poor’s or the equivalent by any other independent bond-rating agency. The fund may invest an unlimited amount of its assets in non-investment grade debt securities, commonly called junk bonds, which include debt securities rated BB+ or lower by Standard & Poor’s or the equivalent.

Management considers a number of factors when selecting investments, including the economic environment, interest rate trends, and industry fundamentals. It also does an analysis of a company’s fundamentals, including financial strength, growth of cash flows, strength of management, improving debt to cash ratios, potential to improve credit standing, and a strong, defensible position in an industry. Most of the bonds have short- and intermediate-term maturities. As of March 31, 2012, the portfolio’s average maturity was 5.08 years.

Another fund with a high year-to-date return through April 30, 2012 is Invesco High Yield Securities Fund A (HYLAX). This fund’s objective is to seek high current income and, secondarily, capital appreciation, but only to the extent consistent with its primary objective.

Under normal market conditions, the fund will invest at least 80% of its assets in high yield, high risk bonds and other income securities, such as convertible securities and preferred stock. The fund is non-diversified and principally invests in junk bonds rated below BBB by Standard & Poor’s or the equivalent. Management attempts to control its risk by limiting the portfolio’s assets that are invested in any one security, and diversifying the portfolio’s holdings over a number of different industries. It may hold up to 30% of its assets in the securities of foreign issuers, and up to 20% in public bank loans. Less than 20% of its assets are invested in securities rated BBB or higher by Standard & Poor’s or the equivalent. The fund may also use hedging techniques, using to manage risk and/or earn income. 

A third fund with a relatively good year-to-date return and five-year total return is Blackrock High Yield Bond Portfolio Fund (BHYAX). This fund’s objective is maximum total return, consistent with income generation and prudent investment management. 

To achieve this goal, the fund normally invests at least 80% of its net assets in high-yield non-investment grade securities with maturities of ten years or less. To add additional diversification, including bonds rated below investment grade, convertible securities, and preferred stocks. The fund’s strategy is to position the portfolio in sectors with attractive returns and reasonable margins of safety. It seeks issues that may be overlooked by investors, which have attractive return potential relative to the perceived risks.

In the table below, we have listed 10 top-performing funds through April 30, 2012 that we follow in our Fund Advisor database.

10 Top Corporate-High Yield Funds Performance

At the time of this article's writing, the author did not have positions in any of the funds mentioned.