By Tom Lydon |
With the Federal Reserve expected to tighten its monetary policy soon, investors can utilize floating-rate, high-yield, senior loan exchange traded funds to hedge against a rising interest rate environment.
“With rates that adjust periodically, floating-rate loans offer investors an alternative method of earning higher yields with little or no interest-rate risk,” Ethan Powell, Highland Capital Management’s chief product strategist, said in a Wall Street Journal article. “Even though the loans are issued by below-investment-grade corporations, they have seniority over other forms of equity and debt in the event of default.”
Powell suggests investors should look at ETF options as a way to access this specific area of the fixed-income space. For instance, the Highland/iBoxx Senior Loan ETF (NYSEArca: SNLN) provides access to the senior bank loans market.
Due to their floating rate component, bank loans are seen as an attractive alternative to traditional high-yield corporate bonds in a rising rate environment. Bank loan securities allow their interest rate to shift, or float, along with the rest of the market, whereas a fixed interest rate stays constant until maturity.
Specifically, SNLN’s floating component typically takes an average 21.2 days to reset, providing the bank loan securities with a negligible effect from rising rates, and the ETF offers a 5.04% 30-day SEC yield. In comparison, a high-yield bond ETF, like the iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG), has a 4.07 year effective duration – a 1% increase in the interest rate could translate to a 4.07% decline in HYG’s price – and comes with a 4.67% 30-day SEC yield.
Investors, though, should not forget that senior bank loans are denoted high-yield because the issuing firms are highly leveraged, and highly leveraged companies are more at risk of default and bankruptcy. Nevertheless, these bank loans are slightly safer than traditional high-yield bonds since they are secured by collateral and have historically shown lower default rates.
The PowerShares Senior Loan Portfolio (NYSEArca: BKLN) is the largest ETF offering that covers senior loans with $6.8 billion in assets under management and has a 4.15% 30-day SEC yield and a 28.4 day reset period. The SPDR Blackstone/GSO Senior Loan ETF (NYSEArca: SRLN) has a 3.66% 30-day SEC yield and a 26 day reset period.
Additionally, the actively managed First Trust Senior Loan ETF (NasdaqGM: FTSL) shows a 3.71% 30-day SEC yield and a 36 day reset period.
For more information on the fixed-income assets, visit our bond ETFs category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.
FULL STORY – Senior Loan ETFs Still Have Rising Rates Appeal