With investors anticipating a large fiscal stimulus that President-elect Donald Trump pledged to enact, yields on Treasury yields surged to their highest levels this year, but exchange traded fund investors who utilized interest-rate hedged strategies hardly noticed the rout in the bond market.
For instance, the popular investment-grade corporate bond ETF, iShares iBoxx $ Investment Grade Corporate Bond ETF (NYESArca: LQD), fell 2.3% over the past week while the iShares Interest Rate Hedged Corporate Bond ETF (NYSEArca: LQDH) rose 0.3%, Deutsche X-trackers Investment Grade Bond – Interest Rate Hedged ETF (NYSEArca: IGIH) increased 1.4% and the ProShares Investment Grade-Interest Rate Hedged ETF (BATS: IGHG) returned 1.0%.
While the popular iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG) fell 1.8% over the past week, the iShares Interest Rate Hedged High Yield Bond ETF (NYSEArca: HYGH) showed a smaller drawdown of 1.1%. Moreover, the Market Vectors Treasury-Hedged High Yield Bond ETF (NYSEArca: THHY) gained 0.8%, ProShares High Yield Interest Rate Hedged ETF (BATS: HYHG) increased 0.3% and WisdomTree BofA Merrill Lynch High Yield Bond Zero Duration Fund (NYSEArca: HYZD) was down 0.4% over the past week.
These interest-rate hedged bond ETFs hold short positions in interest rate swaps, which more or less provide the rate-hedged ETF a 0 effective duration – duration is a measure of a bond fund’s sensitivity to changes in interest rates so a zero duration reflects no sensitivity to changes.
The strategy should help an interest-rate-hedged ETF outperform its non-hedged options if rates continue to rise. The rate-hedged strategy has outperformed after yields on benchmark 10-year Treasuries surged to 2.22% Monday from 1.78% prior to the election.
Yields on 10-year notes touched 2.3% Monday, the highest intraday level since December, marking a quick reversal from just fourth months aga when it touched a record-low of 1.318%, Bloomberg reports.