PowerShares Senior Loan Index ETF (TSX: BKL.F)
One of the appeals of floating-rate investments is that there is very
little duration risk because the interest rate earned fluctuates with a
reference rate, quite often LIBOR. This makes them attractive in periods of
rising yields, and that has been the case so far this year.
For the 12 months ending October 31, this ETF rose by more than 2.67%,
while the FTSE/TMX Short Term Bond Index fell by 0.13%, and the broader
FTSE/TMX Canada Universe Bond Index was off nearly 0.47%. The drop in the
indices was the result of a rise in yields, which have been quite volatile
in the first year of the Trump Administration. The combination of the U.S.
Federal Reserve increasing rates last December, combined with market
expectations of Trump’s economic plans likely to result in higher inflation
has pushed global yields up. In Canada, the benchmark Government of Canada
5-year bond saw its yield rise from 0.96% a year ago to a recent 1.68%. It
was a similar story with other rates, with the three-month LIBOR rate
jumping from 0.91% to 1.39% in the same period.
With the underlying reference rate on the rise, so too were the prices of
many of the loans in the portfolio. The gain in the portfolio was
significantly lower than the rise in the underlying yield in the portfolio.
This is because many of the loans had a rate floor in place, meaning the
lowest rate the loan would pay was set at a predetermined level. In most
cases, this floor rate was set at 1%, so even though there was a sharp rise
in the reference rate, the coupon rates on many of the loans wouldn’t move
higher until LIBOR crossed 1%. Now that LIBOR is above this threshold,
Invesco estimates that nearly 95% of floating rate loans meet or exceed
their floor, making them true floaters once again.
Whether or not the U.S. Federal Reserve raises rates before the end of the
year, it is widely expected there will be increased volatility in the
interest rate markets. That should prove to be a positive for floating rate
products, particularly if we see further upward pressure on yields.
This remains my top fixed-income ETF pick. It offers broad exposure to
floating rate loans, has a yield to maturity of 4.7%, and is available at a
reasonable cost. This can be a solid addition to the fixed-income sleeve of
your well-diversified portfolio.
PowerShares Tactical Bond ETF (TSX: PTB)
This is a tactically-managed portfolio that invests in a mix of underlying
fixed-income ETFs. Because of this tactical approach, I believe it has the
potential to outperform a passive bond index, particularly in periods of
market volatility. That has happened year to date, with the ETF gaining
2.23% as of the end of October, a modest outperformance of the broader
FTSE/TMX Canada Universe Bond Index at 2.13%.
At the end of October, about half was invested in short term, investment
grade bonds, which outperformed. This contributed to the fund’s modest
outperformance. Also, contributing to the return was the allocation to
The ETF did what I expected it to do – outperform in a volatile market. The
tactical management from Invesco’s Intactive team aims for risk-managed
exposure to the various segments of the fixed-income market. This can help
the fund hold up better in periods of volatility.
The drawback comes from the team’s consistency in executing the strategy.
So far, it has been decent, but unspectacular, and as of Oct. 31,
performance has somewhat lagged the broader market for 3- and 5-year
periods. Another drawback to this ETF is its cost, with a management fee of
0.49%, compared with 0.12% for
Vanguard’s Aggregate Bond Index ETF (TSX: VAB).
Still, I see this fund as having the potential to outperform in a volatile
market, helping to more than offset its higher cost.
Dave Paterson, CFA, is the Director of Research, Investment Funds for
D.A. Paterson & Associates Inc., a consulting firm specializing in providing research and due
diligence on a variety of investment products. He is also the publisher
Dave Paterson’s Top Funds Report,
offering regular commentary and in-depth analysis of Canada’s top
investment funds. He uses a unique analytical approach to identify
funds with strong, risk-adjusted returns, and regularly publishes his
insights and analyses in Fund Library.
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