Intensifying speculation that the Federal Reserve is nearing a potentially sizable interest rate reduction has provided some support for fixed income assets, as highlighted by a gain of nearly 1% over the past month by the Bloomberg U.S. Aggregate Bond Index. However, some fixed income ETFs have been better bets over the course of 2024. Take the VanEck CLO ETF (CLOI). The original ETF dedicated to CLOs is outpacing “the Agg” on a YTD basis.
As is the case with essentially any other corner of the bond market, CLOs could potentially benefit from lower interest rates. But Fed easing isn’t mandatory for an ETF such as CLOI to thrive.
In fact, the ETF has proven durable during a time of uncertainty in the bond market. CLOI is higher by 2.07% over the past year. And following a strong showing in June, CLOs are on a 15-month winning streak. Obviously, that’s good news. But advisors and investors should explore why the VanEck ETF is thriving.
CLOI, CLOs Have Tailwinds
One of the tailwinds recently providing ballast to the CLO/CLOI thesis is encouraging economic data, including cooling inflation, which could provide the runway need to lower interest rates.
“The macroeconomic environment was supportive during the month with the market pricing for somewhere between Goldilocks conditions and a mild economic slowdown,” according to VanEck research. “Treasuries rallied on the back of a very favorable US CPI report, weaker economic data, political unrest in France, and Fed projections suggesting a delayed but not necessarily less substantial easing cycle. Treasury rates rallied in June, with 5- and 10-year Treasury rates trading 13 bps and 10 bps lower, respectively.”
Bolstered by strong carry, CLOs and CLOI stood out in the June quarter. VanEck noted the asset class outperformed both investment-grade and high yield corporate bonds during that period. That’s noteworthy because CLOI sports a 30-day SEC yield of 6.60%. And it allocates more than three-quarters of its roster to debt rated AAA, AA, or A, meaning its credit risk is significantly lower that of a standard corporate bond ETF.
Interestingly, it is the highest-rated corners of the CLO space that recently performed the best. That indicaties investors can be rewarded with CLOI without having to embrace significant credit risk.
“CLO prices have rallied significantly this year with the average AAA-BBB price ending June above par, with the basis between higher and lower-rated tranches tightening through the 5-year median,” added VanEck. “Were spreads to widen, we maintain the ability to shift further into lower rated tranches. With the majority of CLO paper trading above par, we continue to realize gains in securities that are trading above par in favor of credits, which offer more positive price convexity and/or spread in the primary market.”
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