Will U.S. interest rates increase on Wednesday? The Federal Reserve will announce their decision with many bond market participants expecting the central bank to again raise interest rates.
Moreover, bond market observers will be waiting on commentary from the Fed for signs of how many rate hikes the central bank could unveil over the course of 2018.
Investors looking for an alternative to traditional cash instruments can consider floating rate bonds and the related exchange traded funds. Specifically, the notes’ have a so-called reset period with interest rates tied to a benchmark, such as the Fed funds, LIBOR, prime rate or U.S. Treasury bill rate. Due to their short reset periods, these floating rate funds have relatively low rate risk.
The SPDR Barclays Investment Grade Floating Rate (NYSEArca: FLRN) is one of several exchange traded funds providing exposure to floating rate notes. FLRN tracks the Bloomberg Barclays U.S. Dollar Floating Rate Note < 5 Years Index.
“The Bloomberg Barclays US Dollar Floating Rate Note <5 Year Index is comprised entirely of investment grade rated floating rate securities with maturities less than five years,” said State Street Global Advisors (SSgA) in a note. “The majority of these securities are tethered to the 3-month London Interbank Offered Rate (LIBOR) plus a predetermined spread. The benefit of this structure is most pronounced as interest rates rise because it reduces interest rate risk relative to fixed rate bonds.”
Interest Rates and Bond Sensitivity to Changes
The $2.35 billion FLRN debuted in November 2011. FLRN has nearly 630 holdings and an option-adjusted duration of just 0.14 years. Duration measures a bond’s sensitivity to changes in interest rates.