It wasn’t too long ago that terms such as “lower for longer,” “zero interest rate policy” and “reaching for yield” dominated articles and white papers focused on fixed income investing. Today, they are virtually nonexistent, as the Federal Reserve has raised interest rates in each of the last nine FOMC meetings, bringing bond yields to the highest levels in more than a decade.
Amid this shift, a growing universe of investors and advisors are revisiting bond allocations with an eye toward benefiting from this move in rates. In doing so, the challenges of navigating the multiple ways in which yield is reported on fund websites and factsheets across the industry have resurfaced to make fund due diligence and comparisons a vexing endeavor.
In fact, a cursory review of a few different websites reveals terms such as distribution yield, 30-Day SEC yield, 12-month trailing yield, yield to worst, and yield to maturity are all used to report the yield of funds. And in some cases, there’s a significant disparity between these different data points for the same fund.
As advisors look for opportunities to put the income back into fixed income, it’s important to understand that not all measures of yield are created equally. Understanding the differences can help identify which funds might be best suited to meet client needs.
Let’s take a closer look at what each yield measure represents.
Distribution yield or trailing 12-month yield—This measure of yield is calculated by identifying the fund’s most recent income distribution, multiplying it by 12 to annualize the data, then dividing the total by the net asset value (NAV) of the fund. While distribution yields provide a timely view into the income payments to investors, the data can be skewed if significant changes in income distributions or a fund’s NAV occurred over the past year. Importantly, this measure isn’t standardized. Some firms may total all distributions made by a fund over the preceding 12 months and divide the sum by the NAV at that time.
30-day SEC yield or standardized yield—this measure was developed by the U.S. Securities and Exchange Commission (SEC) to help investors and advisors compare fund yields. The calculation is based on the most recent 30-day period and represents the dividends and interest earned during the period after the deduction of the fund's expenses. Because it is mandatory for funds to calculate this yield, it’s particularly useful for comparing two or more funds. However, it is important to note that the 30-Day SEC Yield reveals what investors would earn in income over the course of a 12-month period if the fund continued earning the same rate for that period of time and assuming all portfolio securities are held to maturity.
Yield to worst—this hypothetical measure is used to determine the worst-case scenario for yield received at the earliest allowable call date for the bonds in a portfolio, provided the issuer does not default. By measuring yield in its “worst-case” scenario across all portfolio holdings, investors can better manage risks and expectations should issuers call bonds in a fund before the mature. As a measurement for yield, it is among the most conservative calculations.
Yield to maturity—this measure of yield is considered a forward-looking gauge. It represents the total return anticipated if all bonds in the portfolio are held to maturity. It assumes bond coupon and principal payments are made on time and reinvested. While regarded as a long-term measure, it is expressed as an annual rate.
With four different measurements all designed to provide investors with insight into the same variable—yield—it begs the question, which is the best?
If there was a clearcut answer to this question, investors and asset managers would have likely migrated to a single metric for reporting fund yields. The truth is, each measure provides an advisor or investor with important insight into a fund that can be used to evaluate the fund and assess its role in a portfolio. For long-term holdings, yield to maturity can provide a solid baseline for what to expect over time. Following periods of significant interest rate changes, a 30-day yield can provide a timely look into how those changes are impacting investors in a fund.
Given the rate at which the fixed income landscape has changed over the past year, thorough fund due diligence should start with an understanding of how each yield metric is calculated. With this foundation in place, advisors can best determine what differences in yields signify within a fund and across the various offerings for each segment of the bond market.
John Kerschner is head of U.S. securitized products at Janus Henderson Investors.