There is rarely as much uncertainty as there is about the future direction of interest rates.
The Feds benchmark fed funds rates will rise in the coming months. However, it is anyone’s guess where Treasuries yields will end up. After rising steadily for months, the yields on the Treasuries of the two-year and 10-year ages was last seen at 2.7% and 3.1% respectively.
Some believe they are close enough to the top, while others believe they can go higher. Investors who want to protect their investments have many options in the ETF industry to minimize the impact of higher rates or even capitalize on them.
Lower-Duration Bonds
Investors in rising rates should reduce their bond portfolio’s duration. Duration is a measure to assess interest rate risk. It’s based on the maturity of a bond and its coupon payments.
A portfolio with a longer duration is more at risk of interest rate increases than one with a shorter duration. A portfolio with a lower duration, for example, will have lower interest rate risk by purchasing shorter-term bonds. On the flip side, a portfolio will probably have lower yields.
There are many ETFs with low duration that can reduce the average portfolio length, including the iShares Short Treasury Bond eTF (SHV).The iShares 1-3-Year Treasury Bond ETF (SHY).The PIMCO Enhanced Short-Maturity Active ETF (MINT).… and many other things.
ETFs with Inverse Bonds
Inverse ETFs are another way to hedge against rising rates. These funds short bond bonds, which means they rise in value when interest rates rise (bonds prices and rates generally move inversely).
The ProShares Short Treasury ETF (TBF), 20+ Year Treasury ETF (ProShares)Daily inverse exposure to Treasurys maturities greater than 20 Years. ProShares Short-High Yield (SJB).Daily inverse exposure to high-yield corporate bonds with maturities between 3 and 15 years.
TBF, SJB, and similar ETFs are available to hedge bond funds or to speculate on the direction interest rates will go.
Remember, however, that any product that shorts positive yielding bonds will have a cost to keep that position in place over time. Even if interest rates stay flat, this can lead to losses.
ETFs that have a floating rate bond
Floating-rate ETFs are a simple solution for investors who want to eliminate all interest rate risk. The iShares Floating-Rate Bond ETF (FLOT).Holds a basket of bonds that have a maturity of less than five years. These securities have floating rate notes. The interest rates on these securities are reset every other month based on market rates. If rates rise, the payout will also increase. However, rates on floaters will tend be lower to compensate for the lower risk.
When rates are expected increase, floaters are more attractive than fixed-rate bonds. However, they are less attractive when rates are predicted to fall.
The PowerShares Senior Loan Portfolio (BKLN)Another type of floating-rate ETF. It tracks an indices of the 100 largest bank loans that have floating-rate coupons. The fund has little interest rate risk, but relatively high credit risk due to its below-investment-grade portfolio.
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