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By Rob Isbitts
Summary
VanEck High Yield Muni ETF (BATS:HYD) is an offering whose risks may not be obvious to many investors. It represents the high yield Municipal bond market, which we think is an accident waiting to happen, following years of mismanagement by states, counties and cities in many parts of the United States. When we think about it, this is a lot like the mistake that many retail investors make when they convince themselves that buying Munis with high yields is like a secret sale no one else knows about. In reality, this asset class was no bargain a year ago, and it still comes with massive risk. We rate it a Sell.
Strategy
HYD owns a portfolio of Municipal bonds, aiming to track the ICE High Yield Crossover Municipal Bond Transition Index. That is a complicated name for an index that screens for bond issues that have lower ratings. These tend to be Revenue bonds, which means the bonds were created as a vehicle to raise money to fund specific projects in states, counties or cities. The bonds allow those municipalities to fund services, improve infrastructure, build sewer systems, build and repair bridges, and fund schools.
Proprietary ETF Grades
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Offense/Defense: Defense
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Segment: Bonds & Cash
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Sub-Segment: High Yield Municipal Bonds
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Correlation (vs. S&P 500): Low
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Expected Volatility (vs. S&P 500): Moderate
Holding Analysis
Roughly one-quarter of the fund’s assets are invested in BBB-rated bonds, so HYD is not purely a “junk bond” ETF. Another 23% is currently in bonds rated BB and single-B bonds make up another 6%. The big mystery with ETFs like this one center around the opaque “non-rated” segment of the portfolio. With HYD, that accounts for about 37% of assets. That’s a lot of uncertainty. Furthermore, the bond allocation here is skewed toward long-term maturities. About 80% of HYD is invested in bonds maturing at least 10 years from now.
Strengths
Unless the muni market turns on a dime, it is hard to find a secular strength here. The fund does track the index, and it is an index that may be attractive to yield-reaching investors. But frankly, there are so many other ways to earn a decent income in today market climate, we just don’t see why this ETF would rise to the top of someone’s list right now.
Weaknesses
We all hear constantly about the leveraged Federal government budget. Municipalities could be forgiven for hearing that and yelling, “hold my beer!” After all, state budgets in many parts of the U.S. are hanging by a threat, thanks to years of bond issuance for projects that didn’t ultimately pay off. It’s a mess. And the bond market has finally priced it that way, with HYD falling 19% year to date. Notably, that includes its roughly 4% dividend yield.
Opportunities
The key opportunity here will sound like a backhanded compliment. HYD is down so much in price, it at least qualifies as a “contrarian” play.
Threats
That said, just two years ago, amid the start of the Covid pandemic, this fund fell 35% peak to trough. So, it could fall another 20% and still not break that mark. That’s something to think about before you try to be a hero and own high-yield Munis. This is an asset class that many investors likely own because they believe that buying bonds is like it was 20 years ago. We don’t see today’s investing world that way, given massive changes in who the players are and how the bond market functions now.
Proprietary Technical Ratings
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Short-Term Rating (next 3 months): Sell
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Long-Term Rating (next 12 months): Sell
Conclusions
ETF Quality Opinion
VanEck, as usual, does a fine job in allowing investors to access a unique slice of the bond market. But this has not been HYD’s year. Furthermore, we don’t think this will be bond investors’ decade.
ETF Investment Opinion
There’s just not enough happening here to make us think that the 4-5% tax-free yield HYD may spin off is worth all of the price risk. We rate it a Sell.
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