Fixed income investors are in a tough spot. Treasury yields rose, resulting in losses on fixed rate bonds. But Treasury prices have not yet sold enough to make these bonds attractive as a source of yield.
The bond market losses this year have come mainly from high duration bonds, a measure of interest rate sensitivity that is related (but not the same to) the maturity of a bond. The
IShares 20+ Year Treasury Bond Exchange Traded Fund
(ticker: TLT) posted a loss of over 13% this year on Monday morning.
Few traders or investors expect the 10-year yield to stagnate below 2% in the long run, even though the sale of Treasuries takes intermittent pauses as it did on Monday, with the 10-year yield down two basis points, or hundredths of a percentage point, to 1.6%. In fact, Wall Street strategists have been discussing a possible end to the bond bull market for several decades. This does not bode well for long term, low coupon bonds.
So experts say investors should look outside of traditional fixed income portfolios to manage their exposure to rising yields because Barron reported this week. One area of ââinterest has been the junk bond markets in the US and overseas, as they typically have shorter duration and greater sensitivity to economic growth which has pushed yields higher.
Another area that has gained attention is floating rate securities, which are available both as actively managed funds and ETFs. While active closed-end funds can increase returns through leverage, such as Barron Covered, investors may want to manage their expectations with floating rate ETFs, as safe floating rate bonds aren’t fetching much yet.
Most floating rate securities are compared to short-term interest rates, such as the London Interbank Offered Rate or its planned replacement, the Secured Overnight Financing Rate. And it’s not clear when those interest rates will rise and start offering a yield advantage, as the Federal Reserve cut interest rates to zero during the pandemic and plans to keep them there for at least a few years. .
So, when investors are looking for floating rate ETFs, they have several options: they can either invest in safer floating rate debt securities with the aim of avoiding losses, or they can look for ETFs that invest in sectors with lower rates. highest risk in the market. , with larger deviations from their benchmark, to increase returns and returns. Both of these options are included in this screen, which covers funds in ETF.com’s Floating Rate Fund category with over $ 400 million in assets. ETFs focusing strictly on floating rate treasury bills were excluded because these markets offer negligible returns.
The higher risk category invests in bank loans, also known as leveraged loans, and should appeal to investors who want to capitalize on the economic recovery and earn higher returns. But investors should be aware of the risks they take: While the funds themselves may be liquid, the underlying market has long transaction settlement times and has experienced weakening contractual protections for lenders, known as restrictive covenants. This introduces more risk during an economic downturn or when investors are rushing to get money.
However, another slowdown is not expected anytime soon. The most likely scenario is that strong economic growth leads to more increases in Treasury yields, leaving more secure fixed rate bonds facing probable losses instead of riskier debt.
And for those who believe that high inflation is on the way and that, despite assurances from Fed officials, inflation will prompt central banks to raise rates sooner than expected, safe funds could be a particularly smart bet. . Safer bonds will be relatively insulated from any possibility of the Fed raising rates
Below is a list of variable rate ETFs, with their returns, asset classes and historical performances:
Note: SEC yield is 30 days, net of fees
Sources: ETF.com, fund documents
Write to Alexandra Scaggs at [email protected]