Now that U.S. markets try to wean itself off quantitative easing and prepares for rate risks, bond investors can utilize long-short exchange traded funds to navigate the fixed-income market while mitigating the negative effects of rising rates.
On the upcoming webcast, Fixed Income Strategies at Taper’s End – Are You Really Prepared?, Rick Harper, WisdomTree’s Head of Fixed Income & Currency, warns investors about the potential after effects of a tighter monetary policy and an end to the Federal Reserve’s bond purchasing program.
One way to diminish interest rate risk is through taking an institutional approach. Specifically, fixed-income investors can utilize long-short bond strategies to diminish rate risk.
For instance, investors can take a look at the WisdomTree Barclays U.S. Aggregate Bond Zero Duration Fund (NYSEArca: AGZD), WisdomTree Barclays U.S. Aggregate Bond Negative Duration Fund (NYSEArca: AGND), WisdomTree BofA Merrill Lynch High Yield Bond Zero Duration Fund (NYSEArca: HYZD) and WisdomTree BofA Merrill Lynch High Yield Bond Negative Duration Fund (NYSEArca: HYND).
These new types of zero duration or negative duration ETFs hold long-term bonds, but they will short Treasuries or Treasury futures contracts to hedge against potential losses if interest rates rise – bond prices have an inverse relationship to interest rates, so rising rates corresponds with falling bond prices.
With a near zero duration, changes in interest rates would a negligible effect on the ETFs. For example, the AGZD has a 0.12 year duration and HYZD has a -0.34 year duration, which could show that a 1% increase in interest rates would roughly translate into a 0.12% decline in AGZD’s price and a 0.34% gain in HYZD.