Ever rooted for the underdog when you knew it couldn’t win?

In basketball — as in many sports — this happens all the time.

In the recent NCAA tournament, for example, Hampton (17-17 in the regular season) was pit against Kentucky (34-0). The chance that Hampton would upset this perennial powerhouse was slim to none.

And yet, millions of dollars were put down on this underdog by betters all across the country.

Why? Because these folks were betting on another game entirely. One with better odds and higher rewards… One that casual fans had no idea was going on right in front of them.

A similar thing plays out every day in the investing world. If you understand it you stand to profit from high-yield opportunities that most investors will never see.

Let me explain…


Let’s consider the bond market for a moment.

You can put your money on corporate bonds backed by stalwart blue-chip companies like Microsoft and Treasury IOUs. Or you can choose “junk” bonds issued by smaller, shakier businesses.

It stands to reason that “AAA”-rated issuers have pristine balance sheets, greater financial resources and a much better likelihood of repaying borrowed money. They are the best of the best.

So why would anyone bet on junk?

For the same reason some people bet on Hampton.

You see, to even out the betting, the Las Vegas odds-makers set the line at 32 points. Basically, this means that Hampton had a 32-0 lead before the game even started. Hampton’s skills didn’t improve, but now bets on the underdog were easier to win.

Likewise, weaker companies with a few blemishes on the balance sheet have to sweeten the deal to coax investors to fork over large sums of cash. And they do that by paying higher rates. This is what’s called the “yield spread.”

Today, the yield spread for junk bonds is pretty compelling. Due to the collapse in oil prices to around $50 per barrel, fears have risen about defaults in the energy sector. As a result, junk bonds now yield about 4% more than Treasuries.

As usual, the market has overreacted. The energy sector accounts for just 15% of all high-yield corporate debt, and so far only one energy producer has defaulted in the eight months since oil prices began to fall.

Opportunities Like This Don’t Come Along Every Day
Now I admit, bonds aren’t the most exciting investment around. But that’s exactly why most investors miss out on high yields and total return potential.

Let me give you an example of how this led to a once-in-a-generation opportunity…

During the financial crisis, we saw an enormous opportunity to take advantage of this situation. At the height of the panic, investors began selling anything that wasn’t nailed down.

Even highly rated investment-grade bonds fell into the abyss. And if blue-chip companies with top-notch credit scores had trouble borrowing money, imagine what it was like for everyone else.

In the best of times, companies with a few question marks have to pay at least three or four points above the going Treasury rate to compensate for the additional risk. But the greater the possibility of widespread default, the more it takes to incentivize investors.

At the height of the panic, junk bond spreads spiked to a whopping 2,000 basis points — meaning lower-rated bonds were paying an incredible 20 percentage points above and beyond Treasuries.

During the Great Depression, default rates never spiked above 15.4%, so it became clear to savvy investors that there was an opportunity.

Sensing the opportunity for a truly historic rebound, in March 2009 I told StreetAuthority readers to buy the Western Asset High Income Opportunity fund (NYSE: HIO).

By the end of the year, shares rallied for a 59% total return — seven years’ worth of fixed-income bond gains in a matter of months.

Factors Are Aligning For Another Big Run
While many asset classes will deliver flat or even negative returns when interest rates begin to rise, high-yield bonds could shine with healthy double-digit gains.

That’s because junk bonds are less sensitive to interest rates and more dependent on default rates. Simply put, if these companies are doing well, they’ll make their payments. And today, the economic backdrop is favorable.

As it stands, ratings agency Fitch is forecasting high-yield default rates in 2015 to hover at about half the 30-year average of 4.3%.

#-ad_banner-#So you’ve got compelling prices, rich yields and less susceptibility to rate increases. No wonder $93 billion has flooded into high-yield bonds this year.

Back in 2009, we made 59% in nine months from junk bonds. That was a truly rare opportunity, but I think we have the chance to make solid gains from them today.

Now, you could consider betting on the same horse (HIO) this time around. But as for me and my High-Yield Investing subscribers, we’re switching to one with an even better track record.

The fund I recently recommended to my readers has been combing the high-yield bond markets for more than a decade. Its portfolio has $2.3 billion in assets spread among a diverse basket of more than 900 securities.

While its holdings may technically be classified as “junk,” that term is misleading. In reality, the majority of this fund’s bonds are only a notch below investment grade. Its holdings are issued by well-known companies such as Sprint, E*Trade, Six Flags, American Airlines and Tenet Healthcare, to name a few.

The income generated from the fund’s bonds is based on net asset value (NAV). That means the annual payout equates to a yield of 6.6%. But thanks to a recent selloff, shares are trading for a major discount, allowing us the opportunity to lock in a yield of 7.4%.

It’s also hard to argue with the fund’s results. It rocketed 92.6% during the recovery year of 2009. And over the last five years, the portfolio has earned average annual returns of 11%.

There’s no guarantee that stocks will do any better than that this year, and we’ll be collecting 7.4% in pure monthly income — with less volatility than stocks.

The 11% discount the fund is trading at adds another layer of incentive. If the fund drifts back to its historical average discount of 4%, we’ll make some nice gains on top of the income.

Editor’s note: If you’re looking for other market-beating income opportunities, we encourage you to consider Nathan’s premium newsletter, High Yield Investing. In his latest research report, he goes into depth about how ordinary investors can easily lock in double-digit yields every year… without giving up on growth. Check out Nathan’s free report and decide if his research is right for you.