Pair of Unique Income Sources Could Deliver in 2023 | ETF Trends

Due to rising interest rates, income investors face plenty of challenges in 2022 as aggregate bond funds have endured double-digit declines. Some corners of the bond market performed less poorly, others were worse, but the bottom line is that bonds failed investors this year. Making matters worse, fixed income assets faltered as stocks were doing the same, providing investors with no shelter from equity market storms.

On the other hand, investors still need income, and this year’s bond market calamity could open the door to value opportunities with some rate-sensitive assets. Among income-generating exchange traded funds, the VanEck CLO ETF (NYSE Arca: CLOI) and the VanEck BDC Income ETF (NYSEArca: BIZD) could be credible considerations in the new year.

With a yield of 10.29%, there’s no denying that BIZD is a high yield asset and, as such, potentially sensitive to rising rates. However, the bulk of the loans held by business development companies (BDCs) have floating-rate components, which reduces vulnerability to rising rates.

BDCs are another alternative high income source investors should consider when looking to enhance yield in their portfolio while still being mindful of rate sensitivity. BDCs generate income by lending to, and investing in, middle market companies in a variety of ways including equity, debt and hybrid financial instruments. In short, BDCs provide capital to small businesses, and in turn, give investors access to the growth and income potential of private companies that are generally exclusive and difficult to access,” according to VanEck research.

As for the aforementioned CLOI, that actively managed ETF debuted in June, providing investors with exposure to investment-grade collateralized loan obligations (CLOs) of various maturities.

While CLOI doesn’t yet fit the bill as “battle-tested” owing to its youth, investment-grade CLOs are an asset class with history on its side, indicating that this rookie income ETF could be a pertinent consideration for investors next year.

“Over the long term, CLOs tranches have historically performed well relative to other corporate debt categories, including leveraged loans, high yield bonds and investment grade bonds, and have significantly outperformed at lower rating tiers,” concluded VanEck. “CLOs are structured to help mitigate risk, through the strength of their underlying collateral as well as built-in traits such as coverage tests to correct collateral deterioration. This has historically helped them experience significantly lower levels of principal loss when compared with corporate debt and other securitized products. This has resulted in a track record of strong risk-adjusted returns versus other fixed income asset classes, particularly among investment grade rated CLO tranches.”

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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.