Dismal news from the High Yield markets.

Takeaways: 1. Lack of liquidity

2. Negative outlook for growth stocks

3. Finally we are testing the bid side of the markets and it is not pretty  EJS

By MIKE CHERNEY, LESLIE JOSEPHS and SARAH KROUSE

The U.S. junk-bond rout deepened Monday, with the bonds of dozens of low-rated companies falling anew and the shares of some large fund-management firms tumbling as well.

The declines reflected gathering concerns about risky companies’ access to financing, traders’ capacity to sell bonds without causing prices to fall, and ripple effects from the closure of a junk-bond mutual fund. Together, the concerns are feeding investor fears that the U.S. mutual-fund industry could face outflows that will test funds’ capacity to meet investor redemption requests.

The iShares iBoxx $ High Yield Corporate Bond ETF was down about 1.3% Monday, after shedding 2% on Friday in its worst plunge since 2011, to trade at $78.47 per share.

Many of the most heavily traded individual bonds were also in the red Monday, including debt backed by electric utility Dynegy Inc.,telecom Charter Communications Inc. and oil producer Oasis Petroleum Inc. A Dynegy bond fell 1.4 cents to 89.6, a Charter bond fell 1 cent to 96.5 and an Oasis bond was down 4.5 cents to 69.5 cents, according to data from MarketAxess Holdings Inc.

 

Shares of publicly traded asset management firms were under pressure as well, hit by investor concerns over weakness in the high-yield bond market and the move last week by Third Avenue Management LLC to suspend redemptions in one of its funds and liquidate it.

Waddell & Reed Financial Inc. shares were down more than 5%. Shares inFranklin Resources Inc., the operator of the U.S. mutual fund with the most junk bonds, were down 3.6%. Shares in Affiliated Managers Group Inc., which owns a stake in Third Avenue Management LLC, were down about 4% while BlackRockInc. was down 1.25%.

“It feels like a bit of an overreaction in the stocks based on the specific news, but it encourages some concern that we might be at the end of an economic cycle,” said Luke Montgomery, an analyst at Sanford Bernstein.

Traders said debt from energy companies continued to be weak in Monday trading, underscoring worries that many are headed toward default if oil and other commodity prices stay low. Oil prices have fallen in recent weeks amid concerns about slowing economic growth overseas, and oil prices were down again early Monday.

Many investors were spooked last week when Third Avenue Management LLC said it would close the $789 million Third Avenue Focused Credit Fund and would hold off giving shareholders money back for months or more. The firm has since parted ways with Chief Executive David Barse .

The market carnage has put renewed focus on bond-market liquidity, the ability to easily buy and sell debt without taking significant discounts. Many investors say that banks, which traditionally served as broker-dealers, have reduced their bond inventories in response to new postcrisis regulations, a shift that has made it more costly to trade corporate debt.

Wil Stith, a portfolio manager at Wilmington Trust, said it was fortunate that his firm didn’t need to sell energy or mining debt last week. “If we had, it would be very difficult,” he said. “Liquidity is terrible.”

Bonds from Chesapeake Energy Corp., considered a market benchmark because of its large debt load, tumbled anew on Monday, with a 2019 bond down 2.25 cents on the day to 29.75. The company is in the midst of a bond swap to reduce debt, in which it is offering to exchange its outstanding bonds for new ones at mostly less than face value. An early deadline—before which investors get a better rate—is Tuesday.

Some traders said the steepest declines were limited to junk debt, which carries ratings below triple-B-minus. Mary Talbutt, a portfolio manager and trader at Bryn Mawr Trust Co., said she isn’t having any trouble trading debt from companies that have investment-grade ratings.

“I do think there’s a bit of an overreaction,” Ms. Talbutt said. “I’m taking advantage of a couple cheap things that are out there.”

Shares of two of the biggest junk-bond ETFs fell again Monday after they posted their biggest declines since 2011 and lowest settlement since 2009 in record volume on Friday.

Other high-yield mutual funds have also taken hits in recent days.The Ivy High Income Fund fell 1.12% on Friday, according toMorningstar Inc.

ENLARGEDebt from energy companies continued to be weak on Monday as junk bonds were hit with another round of selling. Debt backed by Dynegy, Inc., of which an Illinois power plant is shown in this file photo, was in the red, along with many other energy firms. PHOTO: BLOOMBERG NEWS

Investors piled into junk debt in the years after the financial crisis, taking advantage of low bond prices and betting that the U.S. economy was headed toward recovery. But they have since yanked cash out of high-yield mutual funds for the last three years in a row, according to data from Thomson Reuters Lipper, including $10.5 billion so far this year.

The outflows come as “investors remained disappointed by returns” in the high-yield market, said Jeff Tjornehoj, head of Americas research at Thomson Reuters Lipper. “There hasn’t been a whole lot of great news as far as the economy or yields. The shocks to the system have more than offset the trickle of good news.”

Friday’s record trade volume in shares of the HYG ETF was accompanied by about $560 million of outflows from the fund, one of its largest single days of outflows.

Yet the redemptions posted on Friday in HYG were only 13% of the value traded in the secondary market, or ETF shares—$4.3 billion—meaning the vast majority of the volume occurred in shares of the ETF and not in the bonds.

Traders on Friday said the ETF was trading at a discount to the underlying holdings and that some investors were reluctant to step in, a sign of concern about whether they would be able to later sell the bonds.

What keeps ETFs roughly in line with the value of their underlying holdings are traders that arbitrage the price differences between the two. For example, if the shares of the ETF are trading below the value of the underlying holdings, some traders can purchase the ETF and exchange them for the fund’s assets and later sell the bonds, or other securities.

“It could definitely lead into other” companies’ securities, said Mohit Bajaj, director of ETF trading at WallachBeth Capital. “You’ll see a domino effect.”

The high trading volume in the ETF on Friday compared with the redemptions could mean further moves down in both the ETF, low enough to make it attractive to traders who can then turn and sell—or buy—the bonds.

“Even though [the ETF] trades a lot more than the underlying, that could lull you into a false sense of security,” said Jim Simpson, president of ETP Resources, a consulting firm.

Write to Mike Cherney at mike.cherney@wsj.com, Leslie Josephs atleslie.josephs@wsj.com and Sarah Krouse at sarah.krouse@wsj.com