A Diverse, Bespoke Approach to Putting Income in Fixed Income

Interest rates in the U.S are at historic if not punishing lows and it could be at least three years before the Federal Reserve alters that policy. That means the struggle is real for advisors looking to generate income from bond assets.

A tailored approach that’s diversified across multiple fixed income assets, credit qualities, and durations can ease that burden. Within WisdomTree’s series of Modern Alpha Model Portfolios, there’s a dedicated 100% fixed income model portfolio.

“This model portfolio is focused on a diversified stream of income. It seeks to benefit from secular trends we see evolving in the fixed income markets in a risk-conscious manner. The model portfolio focuses on select opportunities in core sectors, while strategically allocating among sectors and extending the model portfolio’s reach globally,” according to WisdomTree.

Relevant Right Now

The Fixed Income Model Portfolio features eight bond ETFs, including some from outside the WisdomTree stable. The portfolio yields 2.56%, owing to lower durations and mostly high credit quality, but that yield is still well above what investors get on 10-year Treasuries.

One of the cornerstones of the portfolio is the WisdomTree Bloomberg Floating Rate Treasury Fund (NYSEArca: USFR).

USFR, which debuted in February 2014, follows the Bloomberg U.S. Treasury Floating Rate Bond Index. The fund’s holdings are priced at a spread over 3-month Treasury bills.

Floating rate notes, like the name suggests, have a floating interest rate. 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.

USFR uses a“rules-based approach and re-weights the subcomponents of the Bloomberg Barclays U.S. Aggregate Bond Index to enhance yield, while broadly maintaining familiar risk characteristics. AGGY tries to boost return by reweighting the components of the Aggregate Index. But this additional yield is not free as it comes with greater credit risk and rate risk,” according to WisdomTree.

Floaters have some advantages of TIPS. Floating rate note coupon payments are based on a reference rate (90-day t-bills) plus a spread. Since 90-day bills are auctioned every week, the effective duration of floating rate notes is one week, which allows investors to capture higher rates of income as short-term rates rise. This also provides an opportunity for investors to boost income if the Federal Reserve hikes interest rates, though that’s unlikely to happen anytime soon.

For more on how to implement model portfolios, visit our Model Portfolio Channel.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.