On the back of the worst two-day decline since mid-November, stocks opened higher this morning, with the S&P 500 (SNPINDEX: ^GSPC ) and the narrower, price-weighted Dow (DJINDICES: ^DJI ) up 0.37% and 0.34%, respectively, as of 10:10 a.m. EST.
Follow-up: Junk bonds
This column has been warning investors regarding the overvaluation of high-yield bonds for some time now, most recently here. Due to structural factors, shareholders of the iShares iBoxx $High Yield Corporate Bond Fund ETF (NYSEMKT: HYG ) or the SPDR Barclays High Yield Bond ETF (NYSEMKT: JNK ) could be particularly vulnerable to a correction because the pool of investable high-yield issues for these ETFs is pretty narrow, and junk bonds are less liquid than large-capitalization stocks (as I alluded to here).
But don't take it from me. On Wednesday, InvestmentNews reported that Vanguard, the world's third-largest ETF provider -- with an unparalleled record of shareholder-friendly behavior -- will forgo a sizable opportunity to earn fees by launching a high-yield product to compete with the two mentioned above (which now represent $27 billion in assets under management).
The reason? They're concerned that the lack of liquidity in junk bonds creates a premium to an ETF's net asset value when money comes in and a discount when it comes out, exacerbating the volatility in the underlying market. "Those swings hurt the average investor if they're following the crowd," Ken Volpert, head of taxable bonds at Vanguard, told InvestmentNews.
Sequester on, risk on
Remember the fiscal cliff? It never went away, nor was it resolved; it was simply pushed back. In the new year's compromise, the automatic, across-the-board spending cuts that were meant to take effect on Jan. 1 -- known as the "sequester" -- were delayed until March 1. That's seven days from now. What progress have Congress and the White House made to reach an alternative agreement on the federal budget that would mitigate the immediate toll on the U.S. economy? None, so far as this inside-the-Beltway observer can tell.
Combined with fresh uncertainty concerning the Fed's commitment to open-ended quantitative easing, the looming threat of the sequester could be a powerful temporary catalyst for reigniting the risk-on/risk-off dynamic that had tailed off with improving investor sentiment. Stay focused on long-term fundamentals and hold on to your hats -- we could be in for a bit of volatility over the next week.
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