ETFs have facilitated an active management renaissance. Nowhere is that more apparent than in the fixed income arena. There, advisors and investors are flocking to active bond ETFs, some of which have ties to popular open-end mutual funds.
That’s a marketing advantage to be sure, but it’s not required for success in the active bond ETF realm. Just look at the ALPS/SMITH Core Plus Bond ETF (SMTH). SMTH is home to more than $2 billion in assets under management. That proves there’s appetite for aggregate bond strategies with the potential to beat broad-based, passive fixed income indexes. On top of that, the ETF doesn’t turn two years old until December.
SMTH’s potential to beat the “Agg” is a selling point and a big one at that. However, the ALPS ETF may offer end users other advantages. Those perks are coming into focus as market participants increasingly demand more of bond funds.
SMTH Outlook Is Bright
Adoption among advisors is one of the leading reasons the ETF industry continues flourishing. That sentiment applies to active bond ETFs, such as SMTH. That trend is driven in part by advisors knowing that the fixed income is expansive, and that it’s easier to capitalize on complexities with a human touch than a faceless index.
“The complexity of the bond market is another feature that active managers can exploit to add value. Indeed, the range of bonds and combinations of features are potentially infinite,” noted Eric Jacobson of Morningstar. “Even bonds from the same issuers may have distinguishing features, including differences in maturity, coupon, seniority, optionality, and covenants.”
Another point in favor of the union of active management and fixed income — one that could bode well for SMTH over the long-term — is the bond market’s frequent inefficiency. It’s easier for active managers to contend with those inefficiencies than it is for indexes to accomplish the same objective.
“One cause of the bond market’s inefficiency is the fact that most bonds are owned by a relatively small number of large investors, which can limit the number of buyers and sellers willing to transact,” added Jacobson. “In turn, this small number of bond investors means relatively little trading outside of the largest, most liquid bonds. These factors can create challenges in pricing consistency and discovery.”
The bond market’s history of notable price dislocations also highlights the advantages of active management. Investors mindful of that track record could see value in ETFs such as SMTH.
“In fact, in the real world of bond investing, meaningful market distortions have happened across all its major sectors, including government, corporate, and securitized debt. So, indexing during those times means moving in the opposite direction of the overall market,” concluded Jacobson.
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