The coronavirus pandemic will result in seismic consumption shifts, which will reverberate throughout the corporate bond universe. Those changes could highlight the advantages of exchange traded funds such as the FlexShares Credit‐Scored US Long Corporate Bond Index Fund (CBOE: LKOR).
LKOR follows the Northern Trust Credit-Scored US Long Corporate Bond Index, which addresses potential corporate bond liquidity challenges by optimizing a carefully selected subset of all credit issuers from which illiquid, orphaned and small lot names have been removed,” said FlexShares. “Then, multiple factors are taken into account including the characteristics of issuers’ total debt structure, minimum exposure percentages, and odd-lot trade restrictions, to aid in developing our corporate bond indexes.”
LKOR can help investors access a high quality basket of investment grade corporate debt while positioning for a post-coronavirus credit environment.
“Some of these shifts will likely reverse once virus-related health fears ease and the economic recovery takes hold, while other changes will become more permanent either as health concerns linger or consumers favor the convenience, efficiency or cost effectiveness of new types of consumption,” according to Moody’s Investors Service.
Future Considerations
LKOR excludes illiquid and smaller issuers to improve liquidity and transparency. Additionally, the fund targets company bonds that have a higher credit quality, lower risk of default, and potential for higher yield and price appreciation. LKOR holds 219 bonds with a weighted average maturity of 14.77 years, according to issuer data.
LKOR’s quality purview is relevant at a time when many corporate bond investors may be feeling too sanguine simply because the Federal Reserve is stepping into the market. While the Fed is buying corporate ETFs, that doesn’t mean the asset class is free of risk. At the very least, LKOR reduces some of that risk.
“Returning to pre-crisis employment levels will take several years, limiting the consumption capacity of lower-income households. Government transfer payments and forbearance measures will continue to help support these households, but a considerable drop-off in discretionary and non-discretionary consumer spending is likely once the support programs end,” according to Moody’s.
The ongoing low-yield environment and improving economic sentiment has helped push investors toward corporate debt. However, potential investors should be aware that corporate bonds have historically exhibited greater volatility than U.S. Treasuries due to the increased volatility in corporate cash flows and credit risks, along with greater liquidity risks.
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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.