Fixed Income ETFs

The active versus passive battle continues.

February 16, 2012

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story_images_punching-gloveBenefits Canada The active vs. passive debate gets more interesting by the day – especially in the wake of the 2008 financial crisis when investors are starting to ask managers tough questions about fees. As the ETF space grows and returns stay on the low side, the passive end of the debate is getting a big boost. Last week for example I blogged on Canadian Investment Review about this low-key piece of research that turned up on SSRN. It shows U.S. endowments have earned roughly zero alpha in the last 20 years – zero alpha!!! That’s a stunning figure for a class of investors who have long been viewed as leaders in global investment innovation, not to mention pioneers of portfolio management.

Then this week investors pushed their money into fixed income ETFs at record levels. According to BlackRock’s latest ETP Landscape report, fixed income ETPs set a new global record, attracting $9.1bn1 in January 2012 – 27% of overall inflows into the ETP space. With long-dated Treasuries offering negative returns as measured against core inflation, investors are wisely seeking out income-producing products according to BlackRock which noted that dividend-focused equity ETPs attracted net inflows of $3.0bn and investment grade and high-yield corporate bond ETPs together garnered $7.0bn of net new assets in January 2012.

The influx of money into fixed income ETPs could also reflect growing concerns about the value of active management in the bond space – something that is evident after PIMCO experienced its worst year ever, with investors pulling more money out of its flagship $250 billion Total Return Fund than they put in.

At the same time, PIMCO also shook up the ETF landscape by announcing it’s creating an ETF based on the same fund.

I think fixed income ETFs are becoming an interesting space for pension funds to explore – plan sponsors are having a heck of a time dealing with the fact that 30% to 40% of their portfolios are stuck in low interest government bonds, while the rest of their portfolio takes on added equity risk to make up for poor bond performance.

If fixed income is indeed a way to achieve value add then ETFs might help them dip a toe into better opportunities for income and yield.

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