The risk that junk bond selling may create a contagion spreading to other markets is growing as witnessed Friday with the Dow Jones industrial average selling off 309 points.
Gone are the days when this backwater trading ghetto was populated by Michael Milken and his band of junketeers at Drexel Burnham Lambert.
It’s now called high-yield corporate bonds and has major mutual funds and hedge funds running wild chasing yields that have not been seen in the markets for seven years as the Federal Reserve instituted a zero-interest-rate policy.
One mutual fund — Third Avenue Management with $790 million under management, specializing in junk debt — froze withdrawals Thursday after suffering more than $1 billion in redemptions this year.
Mutual funds hold roughly $255 billion in these risky assets, according to the latest numbers, a figure that is down 16 percent from its high earlier this year.
“The meltdown in High Yield is just beginning,” billionaire investor Carl Icahn tweeted Friday afternoon.
Icahn earlier this year debated BlackRock Chairman and Chief Executive Officer Larry Fink over the value high yield Exchange Traded Funds (ETFs), which Icahn said were overvalued and would be very illiquid in a market like the one today.
The risk premium on a high yield index benchmark tied to the debt of 100 speculative-grade companies rose 36 basis points to 514.52, the highest mark since December 2012.
BlackRock’s own High Yield Corporate Bond ETF, the largest fund of its kind, on Friday saw shares fall to the lowest levels since 2009.
Like the Collateralized Debt Obligations of 2007-2008 did, these junk bonds may cause panic selling when larger funds need to sell what they can to cover redemptions.