Fixed-income investors are worried that their bond funds may take a hit in a rising interest rate environment. However, one can turn to a rate-hedged bond ETF strategy that aims to eliminate interest rate risk all together and focus on helping investors achieve their target income generation.

“We like to think of ourselves as the leader of fixed-income solutions that give investors options to stay invested in fixed-income markets, earn an attractive level of yield but hedge out the duration risk,” Kieran Kirwan, Director of Investment Strategies at ProShares, said at the 2018 Morningstar Investment Conference.

Specifically, the ProShares Investment Grade-Interest Rate Hedged ETF (BATS: IGHG) and ProShares High Yield Interest Rate Hedged ETF (BATS: HYHG) are two rate hedged ETF strategies that try to eliminate the rising rate risks. IGHG shows a -0.07 year net effective duration and a 4.09% 30-day SEC yield while HYHG has a -0.10 year duration and a 6.13% 30-day SEC yield.

The two rate-hedged bond ETFs achieve their diminished rate-risk status by shorting Treasury notes so that the underlying portfolio shows a near-zero duration – duration is a measure of sensitivity to changes in interest rates, so a zero duration translates to no sensitivity to changes.

“A lot of investors do not realize how much duration they are carrying in their fixed-income portfolios,” Kirwan said.

Consequently, these rate-hedged bond ETFs do not have to sacrifice their attractive yields when limiting their sensitivity to rising rates, allowing investors to still generate income without having to move down the yield curve. By hedging away rate risk, bond investors can focus on the underlying debt securities without fear of the negative effects of rising interest rates, maintaining their current level of income generation and potentially capitalizing on the tightening credit spreads.

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