Pimco Turns to Buying Junk Bonds for Better Returns

Money management titan Pimco is dipping into the junk bond sector, seeking higher yields in an environment of historically low interest rates.

“We believe 2010 is going to herald a return to an environment in which returns will be dominated by coupon income,” Pimco portfolio manager Andrew Jessop, said in a commentary on the firm’s Web site.

Junk bond yields averaged about 9 percent at the beginning of the year, he notes.

“This suggests that if there are . . . balanced upside and downside risks for this sector, as Pimco believes, the high yield market could potentially provide high single to low double digit returns in 2010,” Jessop said.

While that wouldn’t match last year’s record return of 58 percent for the Bank of America-Merrill Lynch High Yield Master II Index, it’s still an impressive result given the current uncertainty in financial markets.

Jessop said default risk for companies that have issued junk bonds should total less than 3 percent this year. That’s because most of the huge amount of high-yield debt issued last year doesn’t mature until at least 2012.

In addition, credit rating agencies have been slow to award ratings upgrades to deserving junk bonds, Jessop says.

While high-yield debt could be safe for now, Bank of America sees trouble looming ahead.

“This (wave of high-yield debt coming due after 2011) could result in additional default pressures further down the road,” according to a BofA report obtained by Bloomberg.