Value & Income

Finding value in high-yield bonds and preferred stocks

  • With interest rates on a historic rise since early 2022, Eric Mollenhauer, co-manager of Fidelity Advisor® Floating Rate High Income Fund, is finding value beyond the fund's core leveraged-loan holdings to capitalize on other attractively valued securities in the fixed-income market.
  • "Earlier in 2023, we added positions in high-yield corporate bonds and preferred stocks because there was compelling value in these categories," says Mollenhauer, who co-manages the fund along with Kevin Nielsen and Chandler Perine.
  • The fund is a diversified leveraged-loan strategy that focuses primarily on floating-rate, secured loans made to non-investment-grade companies.
  • The rationale for casting a wider investment net to supplement the fund's core allocation to floating-rate leveraged bank loans, Mollenhauer says, is to take advantage of attractive credits that have been punished more than is warranted by the issuers' business fundamentals.
  • As of July 31, about 6% of the portfolio was invested in high-yield bonds and preferred stocks, up from 4% at the beginning of 2023.
  • "Rising interest rates pushed the prices of many high-yield bonds significantly lower," Mollenhauer explains. "As a result, we were able to purchase some credits at a sizable discount to par (face) value."
  • The co-managers also have added fixed- and floating-rate preferred shares issued by investment-grade companies. "On the preferred side, we are finding some opportunities in BBB-preferred stock that have higher floating spreads than comparatively or even lower-rated loans," says Mollenhauer.
  • Within the fund's core allocation, the co-managers target loans from companies that are industry leaders with strong collateral. They look for businesses that can generate strong cash flow through a market cycle, and they're not afraid to buy loans that have been sold due to disappointing earnings.
  • "Because we take a long-term view with the fund's core holdings, we look to buy loans that we believe can survive a temporary setback," says Mollenhauer.
  • While the managers expect the default rate to tick up over the foreseeable future, they think the spread portion of the coupon provides substantial protection for long-term investors if the default rate increases, according to Mollenhauer. And historically, the senior position that loans have in a company's capital structure have provided higher recovery rates versus more junior debt.
  • "We plan to maintain our emphasis on issuers that we believe have favorable near-term business fundamentals, positive and sustainable free-cash-flow trends, and a strong management team," he concludes.
  • For specific fund information such as standard performance and holdings, please go to the "Funds Managed" link on this page.

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