Fixed income exchange traded funds received heightened attention last week after the Federal Reserve once again declined to hike interest rates. Some prescient investors saw that decision as highlighted by some interesting activity in the normally docile PIMCO 25+ Year Zero Coupon US Treasury (NYSEArca: ZROZ).
Global central banks have cut interest rates to near zero, with some pushing into negative territory. As yield-starved global investors seek alternative avenues of income, more may turn to relatively more attractive U.S. government debt, supporting U.S. Treasuries-related exchange traded funds (ETFs).
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“Just before 1 p.m. in New York on Wednesday, the Pimco 25+ Year Zero Coupon U.S. Treasury Index ETF saw a $138 million block trade, representing more than 60 percent of the outstanding shares, according to data compiled by Bloomberg. It was a 30-fold increase over the average daily trading volume in a fund that’s structured to let investors wager on an asset class that does best when rates are falling,” according to Bloomberg.
ZROZ is an example of a bond ETF that can continue to perform even without the added market risks. After the recent lackluster economic numbers, the Fed is pushing off on an interest rate hike, which should help drive the ongoing search for yield. Some market observers have even argued that the Fed may be forced to only raise rates only once this year. In addition, with over $10 trillion in global bonds showing negative yields, foreign investors may continue to dive into U.S. assets like Treasury bonds in search of relatively more attractive yields.
[related_stories]The PIMCO ETF has a 27.34 year duration and a 2.56% 30-day SEC yield. Longer duration ETFs like ZROZ are particularly sensitive to changes in interest, meaning these funds typically perform well the longer the Fed backs away from boosting borrowing costs.
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Zero-coupon bonds often sell at a sizable discounts to face value because buyers do not get a steady stream of income as they do with traditional bonds. As zero-coupon Treasurys get close to maturity, their value increase with buy-and-hold investors getting the full value of the bond when it matures.
Because zero-coupons do not deliver regular income, the bonds and ETFs such as ZROZ are vulnerable to increase in short-term interest rates
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PIMCO 25+ Year Zero Coupon US Treasury
