The fixed-income ETF space has been booming and coming under growing scrutiny simultaneously. The desire for liquidity in the bond market has led investors to ETFs, but August 24th showed everyone that ETF structures may have issues not fully appreciated before that applies two-fold to the fixed-income market that involved a lot of popular high-yield junk bonds. Activists like Carl Icahn have added pressure to the high-yield and leveraged bond space by speaking out about the potential calamity it could asset on the market in a sell-off.
A lot of the trouble stems from a lack of unified data and trading practices across markets and providers. Standardization of data points across fund providers is a big step in securing these popular investment vehicles.
ETF Trends had the chance to sit down with Ben Macdonald, Bloomberg’s Global Head of Product to discuss the inner workings of the project.
ETF Trends: Why was developing this methodology for Fixed-Income ETFs needed now?
Ben:
While the growth of fixed income ETFs has been substantial in recent years, the institutional participation in this market has been slow to develop. One factor hindering institutional adoption has been the lack of standardization of a yield and spread calculation.
Different fixed income ETFs trade at different price scales and providers use different methodologies to calculate the yields that they provide on their websites. It makes it difficult to perform relative value comparisons of ETFs. Moreover, because these funds contain hundreds of bonds with varying degrees of liquidity themselves it makes intra-day yield and spread updates very imprecise.
The new methodology simplifies the evaluation of portfolios of many bonds by turning a fund into a single instrument of derived aggregated cash flows so that it can be evaluated like a cash bond. It will standardize the means of communicating, evaluating and trading these funds, and it will give investors, traders and analysts a consistent method of comparing fixed income ETFs with other traditional fixed income instruments (cash bonds, CDS indexes and total return swaps)