As the exchange traded products industry has grown by leaps and bounds, fund issuers have brought an increasing array of laser-focused products to market. Some of these ETFs have gained traction with investors. Others have not. However, there is no denying that thanks to ETFs, investors can get exposure to previously hard-to-access asset classes such as emerging markets junk bonds and Chinese consumer stocks.
Credit default swaps could be the next niche play put to the test in the ETF world. ProShares, the Maryland-based ETF sponsor known primarily for its lineup of inverse and leveraged funds, could test the waters with eight credit default swaps ETFs. [Inverse Bond ETFs See Action on Rising Yields]
In a filing with the Securities and Exchange Commission, ProShares outlined plans for the following eight ETFs: The ProShares CDS Long North American HY Credit ETF, ProShares CDS Short North American HY Credit ETF, ProShares CDS Long North American IG Credit ETF, ProShares CDS Short North American IG Credit ETF, ProShares CDS Long European HY Credit ETF,ProShares CDS Short HY Credit ETF, ProShares CDS Long European IG Credit ETF and the ProShares CDS Short European IG Credit ETF.
Traders purchase CDS to hedge against possible issuer default on bonds. CDS buyers pay sellers until the contract matures. In turn, the seller agrees to compensate the buyer in the event of default.
ProShares said in the filing the ETFs will be based on credit derivatives indexes. For example, the ProShares CDS Long North American HY Credit ETF will utilize centrally cleared index-based credit default swaps or, if available, exchange-listed futures contracts, depending on which instruments have the most liquidity or otherwise exhibit the most optimal trading characteristics,” according to the filing.
Assuming the ProShares funds come to market, it will be interesting to see if the ETFs gain traction with retail investors. CDS are often viewed as complex, opaque products by retail investors and many of those investors have a negative image of CDS following the global financial crisis. A number of bond ETFs are wildly popular with retail investors, but a fund based CDS may not be appealing to the most conservative fixed income investors. [ETF Flows on Pace to Break $200 Billion]
That does not mean these ETFs will not be successful. In fact, these funds could be the beneficiaries of good timing. If interest rates spike, lowly-rated borrowers that issued high-yield bonds at today’s low rates could be forced to pay old debt with new debt issued at higher rates, a scenario that could increase the allure of CDS.
Even if the ProShares do not immediately capture the attention of retail investors, professional traders could be fertile territory for the ETFs. Although global outstanding volume on credit derivatives is down from 2010, it was still a $26 trillion market last year, reports Karen Brettell for Reuters.
ETF Trends editorial team contributed to this report.
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.