The Federal Reserve has enacted its tenth consecutive interest rate hike, even while signaling rate hikes pause lie ahead. In an environment of stable rates, bonds could continue to flourish. The asset class may see more inflows, as more advisors and investors shift some of their equity allocations to bonds ahead of a recession. As such, the NEOS Enhanced Income Aggregate Bond ETF (BNDI) is worthy of consideration for income within bonds.
Fed language in the FOMC policy statement omitted the wording regarding additional rate hikes that could be appropriate. That signals a possible pause in the months to come. As for rate cuts, it’s not something that is on the Fed’s radar anytime soon, according to Powell.
“We on the committee have a view that inflation is going to come down not so quickly,” Powell said in a post-meeting statement. “It will take some time, and in that world, if that forecast is broadly right, it would not be appropriate to cut rates and we won’t cut rates.”
Banking sector stress continues to concern markets in the wake of First Republic’s recent failure and JPMorgan’s acquisition of the bank. But Powell referred to the acquisition as an “exception” and is likely to result in a “good outcome for the banking system.”
Bank tightening and stress are one of the signals that the Fed will be watching in the coming months. Others include the health of the labor market and a variety of inflation indicators. For now, the regulatory body has seemed to indicate a willingness to ease off the gas. They may coast on current interest rate levels at the meeting in June, should the economy perform to expectations.
Capture High Income Within Bonds With BNDI
Reduced interest rate risk could be a boon for bonds in the coming months. The asset class may become increasingly attractive as equity downturn potential grows and recession risks rise. The NEOS Enhanced Income Aggregate Bond ETF (BNDI) is an actively managed ETF that seeks to offer enhanced monthly income distributions for investors by investing across the broad U.S. Aggregate Bond Market while also implementing a tax-efficient options strategy that generates additional income.
The fund invests in the Vanguard Total Bond Market ETF (BND) and the iShares Core U.S. Aggregate Bond ETF (AGG) to gain broad exposure to the U.S. bond market.
BNDI currently has a distribution yield of 5.1% and a 30-day SEC yield of 2.04% as of 04/30/2023 and is up 2.83% YTD.
The income and capital gains that BNDI receives from its bond allocations are enhanced by the addition of monthly income from the fund’s put-option strategy on the S&P 500, which sells short puts while also buying long puts to protect against volatility.
Benefits Of The BNDI Options Strategy
The strategy may offer positive returns in both flat and rising equity markets. It may also generate positive returns in moderately-declining equity markets, as long as the premium from the puts bought and sold is greater than the cost to close out the positions. Additional benefits of an options-based strategy can mean that the fund may offer a lower correlation to certain risk factors, including duration, credit, and inflation risk.
BNDI’s put options aren’t ETF options but S&P 500 index options, which are taxed favorably as Section 1256 Contracts under IRS rules. The IRS treats options held at the end of the year as if the investor had sold on the last market day of the year at fair market value. Most importantly, the IRS taxes any capital gains as 60% long-term and 40% short-term, no matter how long the fund held them.
This treatment can offer noteworthy tax advantages. In addition, the fund’s managers also may engage in tax-loss harvesting opportunities throughout the year on the put options.
BNDI currently has an expense ratio of 0.58%.
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