Active ETFs have had their coming-out party over the last two years. Asset managers and investors alike are coming to the vehicle’s active variant in droves thanks to the combination of transparency, tax advantages, and manager expertise. Perhaps no asset class benefits more from active ETFs than fixed income. Active fixed income ETFs can provide significant advantages especially as a combination of Fed drama and macro factors complicate the bond space.
See more: Active ETFs Gain Share But Education Remains Key
Active ETFs and active fixed income ETFs particularly dominated discussion during the recent SS&C ALPS Advisors Virtual Summit. The summit saw leaders from SS&C ALPS Advisors, associated asset managers, and market commentators share thoughts on the state of fixed income and active ETFs, hosted by Vettafi’s Head of Research Todd Rosenbluth.
Active Fixed Income ETFs in 2024
The discussion first took the opportunity to revisit the recent boom in active ETF strategies. Greater supply, per The ETF Store’s President and ETF Prime Host Nate Geraci, has actually led to greater demand.
“I think the combination of greater supply of active ETFs and the accessibility to the best portfolio managers and investment strategies, along with this shifting market environment, is really what’s catalyzed the growth here,” Geraci said.
That blossoming in active ETFs has benefited fixed income investing, too. SS&C ALPS Advisors CIO and Head of New Product Development Eric Hewitt pointed out how active has helped fixed income ETFs particularly.
“Being actively managed is really conducive in the fixed income world,” Hewitt said. “The way that the benchmarks are constructed, that active management really does add value.”
“Those internal fund expense costs associated with the ETF wrapper matter a lot in fixed income,” he added.
According to Gibson Smith, founder of Smith Capital Investors, who spoke during the summit, the Fed is “definitely” done with rate hikes. Now the central bank will look to data to determine when it cuts. Active fixed income could then present an option to handle tight spreads during this waiting game. Per Smith, long duration levels in indexes, for example, may not be appropriate for all investors.
“I think this is a ripe environment for active fixed income management,” he said. “but I think active managers have the ability to put up significant excess returns versus the indices based on some of the inefficiencies that I just described and the volatile environment that we think we’re going to be entering here over the next six to 12 months.”
Fixed Income ETFs for This Environment
Smith’s team looks at two key areas for returns compared to indexes. The firm applies a fundamental research approach to security selection in credit markets. The team also looks at sector rotation for market cycles.
SS&C ALPS Advisors Chief ETF Strategist Paul Baiocchi underscored that active fixed income ETFs, amid those tight spreads, could appeal, especially against more staid indexes. SS&C ALPS Advisors works with firms like Smith Capital Investors and Brown Brothers Harriman on a number of ETFs.
“Many of these indexes, including the AGG, weren’t designed to be investable. They were designed to be measurement tools,” Baiocchi said. “You look at that in the investment-grade space, you look at that in the high yield space, [there are]spreads as narrow as they’ve been going back 20-plus years in some of those categories. So [it helps to have]that roll-your-sleeves-up, fundamental bottom-up research to pick and choose among investment-grade credits.”
That helps inform the ALPS/SMITH Core Plus Bond ETF (SMTH). A collaboration between SS&C ALPS Advisors and Smith Capital Investors, the strategy charges 59 basis points (bps). It looks for high levels of current income and capital appreciation, with a wide remit across bonds, mortgage-backed securities, government notes, and more. The ETF has returned 3.8% since inception, per SS&C ALPS Advisors data.
Don’t Forget Munis
Of course, bonds include some really intriguing, specific subtypes like municipal bonds. Per Greg Steier, Brown Brothers Harriman co-head of fixed income, the space remains very inefficient due to household and retail investors exhibiting strong preferences. Following a very difficult third quarter last year, muni bonds had a great fourth quarter, he said. Looking forward, increasing volatility may point to an active investing approach.
“I think as we’ve all alluded to, there’s a lot of uncertainty out there. There’s uncertainty with respect to monetary policy, how inflation evolves from here,” Steier said. “But historically, volatile markets have been good for our strategy.”
That ETF, the ALPS Intermediate Municipal Bond ETF (MNBD), charges a 50 bps fee. It actively invests, looking at investment-grade, intermediate-term bonds. It has returned 5.2% since inception.
Whether munis or otherwise, active fixed income ETFs are playing a growing role in a burgeoning active investing space. For investors looking at their options, SMTH and MNBD provide intriguing options to discover.
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