Source: ProShares
Avoiding unintended portfolio consequences
This brings us to another key benefit of an interest rate hedging approach—it’s an interesting way to separate the two exposures. That’s what the Citi Treasury rate-hedged indexes seek to accomplish. Investors can reduce their interest rate exposure with either investment grade or high yield choices, each of which—with the exception of their interest rate hedge—looks very much like “regular” investment grade and high yield bond allocations. So they can directly replace all or portions of those sleeves without any unintended consequences to an asset allocation. Then, separately, investors can decide if they want more or less investment grade or high yield in their allocations, depending on their current view of credit spreads.
The takeaway
In summary, an interest rate hedged approach can provide higher yields than short duration or floating rate bonds, while maintaining a zero duration target. It’s an important idea for investors seeking to generate additional yield from a long term position in short duration or floating rate bonds. It’s also a key concept for investors seeking to reduce the duration of their bond portfolios in a rising rate environment.
The ProShares Investment Grade-Interest Rate Hedged ETF (IGHG) and ProShares High Yield Interest Rate Hedged ETF (HYHG) strategies have built-in hedges against the effects of rising interest rates by using short Treasury futures to target a duration of zero.
Simeon Hyman is Head of Investment Strategy for ProShares.