PHK CEF: High yield bond fund adapted to the current situation
~ By Snehasish Chaudhuri, MBA (Finance)
The PIMCO High Income Fund (New York stock market :PHK) is a closed-end fixed-income mutual fund (CEF) that invests in public bond markets around the world. This sales his wallet with high yield, low rated corporate bonds and highly secured low yield government bonds. This US-based fund was established on April 30, 2003, and for nearly 20 years has paid out monthly dividends. The annual average yield over the last 10 years varied mainly between 11 and 14%, and for the year 2022 the return amounts to 10.7%.
However, the monthly payment was gradually reduced from $0.1219 in 2003 to $0.048 currently. As the yield remained within this range, it means that the market price of PHK gradually declined. PHK’s stock has rallied after the price shocks it suffered during the global financial crisis and the covid-19 pandemic. But, otherwise, the market price has been gradually declining. So, it is perhaps not shocking for PHK investors to see a price loss of 25% over the past year, while the market itself has suffered tremendously.
PHK is a well-diversified and well-managed fixed income fund
PIMCO High Income Fund was launched and is managed by Allianz Global Investors Fund Management LLC. The fund is co-managed by a subsidiary of Allianz SE (OTCPK: ALIZF), named Pacific Investment Management Company LLC. (PIMCO). PIMCO is an American investment manager that manages over $2.2 trillion in assets through various fixed income funds. In addition to PHK, PIMCO also manages the PIMCO Corporate & Income Opportunity Fund (PTY). PHK employs a dynamic asset allocation strategy across multiple fixed income sectors, which may include corporate debt, government and sovereign debt, mortgages and other asset-backed securities, taxable municipal bonds, etc. .
The PIMCO High Income Fund compares to the ICE BofA US High Yield Total Return Index. This index is comprised of US dollar-denominated corporate debt securities rated below investment grade, ie, rated below BBB. The fixed income securities that make it up also have a residual maturity greater than 1 year, a minimum amount outstanding of $100 million and a fixed coupon schedule.
The average duration of PHK’s portfolio is 6.8. Duration is the measured percentage change in the price of a bond in response to a 1% change in the bond’s yield. The fund earns a weighted average coupon of 5.94% on its assets and has a high expense ratio of 1.18%. The asset quality of its corporate bond portfolio is relatively poor, with only 4% of the entire fund invested in securities rated BBB and above. Thus, the fund has a higher degree of credit risk or default risk. However, my biggest concern with this fund is the possible negative impact of the economic downturn.
Impact of monetary tightening on a bond portfolio
Oil prices have soared and global supply chains and logistics networks have deteriorated due to the ongoing conflict between Russia and Ukraine. Higher energy prices have led to higher input costs for most manufactured goods and hence high inflation. On the other hand, the supply chain crisis has increased the costs of the majority of consumable products. The inflation rate is expected to remain high over the next few months, although the US Federal Reserve (Fed) has tightened its monetary policy. During this year, the Fed raised the interest rate four times, totaling 2.75%.
However, although the fund offers the same yield, as interest rates rise, investors’ real income declines. This could be a likely reason why the price of this ETF has gradually declined, although it should theoretically rise in the current rising interest rate environment. The price may drop even further in the short term. However, this week the Fed hinted at smaller hikes than before [see here also] in the coming months, which, if it happens, could work well for investors in this fund. Economists have warned that further monetary tightening could push the economy into recession.
Investors looking to build a portfolio of monthly income streams can greatly benefit from an investment in the PIMCO High Income Fund. This fund managed to balance its portfolio. 33% of its assets are invested in government bonds. An equal proportion of its portfolio is invested in corporate bonds, municipal bonds, mortgage-backed securities and derivatives. Bond prices tend to fall when interest rates rise because the real income of bond investors declines. And as bond prices fall, investors tend to receive higher yields. So investors who buy when the price is low (as it is now) will likely be able to enjoy a higher return on their investment.
Rising energy prices, supply-side shortages, rising property prices and the resulting inflation did not have a positive impact on the market. As the market has become very uncertain and the risks of economic recession persist, investing in fixed income securities becomes a wise option. This is because common stock dividends become highly uncertain, but bond coupon income remains almost certain. PIMCO High Income Fund is a fixed income CEF that has consistently generated exceptionally high returns and is less likely to experience a distribution cut because its investments always generate the same coupon. However, over the past 20 years, the fund has suffered a gradual price loss and is currently trading below $5.
Its corporate bond portfolio has a low credit rating, mostly lower quality, and is therefore vulnerable during a time when investors fear a recession. However, if the Federal Reserve does not opt for further monetary tightening, investors have much less reason to worry. Additionally, this fund made the right decision by balancing its portfolio with high yield, low rated corporate bonds and highly secured low yield government bonds. Likely due to these factors, the fund is currently selling at a marginal premium to its net asset value (NAV). At a time when the broader market is shrouded in pessimism, the PIMCO High Income Fund certainly stands out, especially with its balanced portfolio and consistent double-digit return.