Recession is on the horizon, or potentially already here, and the added stress of banking sector risk alongside a jobs market that might finally be cooling makes positioning portfolios now for further economic slowing and recession a high priority. For investors who are looking to remain in long-duration Treasuries but are seeking better performance and opportunities, the Quadratic Deflation ETF (BNDD) could be a solution.
The JOLTS data for March surprised strongly to the downside with the number of job openings dropping below 10 million for the first time since May 2021. The Labor Department’s release of the March jobs report tomorrow will give further clarity to the status of the job market but March’s numbers look to be trending downwards as the Fed’s continued aggressive monetary policy takes further economic hold.
BNDD is offered by KFA Funds, a KraneShares company, and is a fixed income, ESG-focused, actively managed ETF. BNDD seeks to benefit from lower growth, a reduction in the spread between short- and long-term interest rates, deflation, and lower or negative long-term interest rates. According to KFA, the fund is positioned to benefit when yields are declining on the 30-year Treasury or when short-term rates are rising. Investors have been flocking to the fund in recent weeks: BNDD brought in $52 million in net flows in the month of March.
The U.S. Treasury yield curve for the two-year note and the 10-year note has been inverted since last July, historically a strong impending recession signal, and reached its deepest inversion since 1981 at the beginning of March before the collapse of Silicon Valley Bank and Signature Bank sent yields tumbling. The yield curve remains inverted today, with short-term Treasuries offering around 4.5% yields and the 30-year yield hovering around 3.5%, though the inversion has narrowed.
BNDD seeks to hedge against deflation risk while creating positive returns at times when the U.S. interest rate curve flattens or inverts. It invests in long-duration Treasuries with different maturities either directly or via ETFs that invest in Treasuries. The fund also uses options that are tied to the U.S. interest rate curve and are traded on the OTC market. These include long options, long spreads, and butterflies (an options strategy that uses both bear and bull spreads) in an attempt to limit loss by the fund and enhance returns.
BNDD carries an expense ratio of 0.96% with fee waivers that expire on August 1, 2023, and is actively managed.
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