Home etftrends.com As the Fixed Income Environment Shifts, Consider Looking to Alternative ETF Strategies

As the Fixed Income Environment Shifts, Consider Looking to Alternative ETF Strategies

After a three-decade bond market rally, fixed income investors have grown complacent with their U.S. Treasury holdings. With interest rates expected to rise, it may be time to consider alternative income exchange traded fund strategies to better manage the potential risks ahead.

The 10-year Treasury yield is supposed to reflect what investors believe the return on money at the risk-free overnight rate set by the Federal Reserve will be, adjusted for a “term premium,” or some leeway built into the yield as insurance against rate bets going wrong, Justin Lahart writes for the Wall Street Journal. However, current yields reflect the market’s view that the main risk to forecasts is that they could be too high.

Specifically, when 10-year notes were at 1.56% on December 23, the 10-year overnight rate was 1.86% after adjusting for an estimate of the term premium. In comparison, Fed policymakers project the midpoint range on the overnight federal-fund rate will rise to 0.75% by the end of 2022, to 1.625% by the end of 2023, to 2.125% by the end of 2024, and average out to 2.5% over the longer run. If the forecasts hold true, the current 10-year yield is over half a point too low, and that’s not considering the current inflation risks, which can contribute to even higher levels of overnight rates than forecasted.

In comparison, back in 2011, the 10-year yield was 1.9%, and after adjusting for the term premium, Fed funds had an implied return of 1.05% annually for the next decade. However, the actual return was 0.63%.

In other words, the 10-year Treasury was a much better investment than risk-free short-term assets would have been in the past few decades.

Looking ahead, after years of enjoying falling rates, complacent fixed income investors may no longer find that Treasuries can provide a similar position in a diversified bond portfolio.

Consequently, investors should reconsider their holdings and rebalance positions to best fit their investment horizon and fixed income needs. For instance, ETF investors may look to something like the Nationwide Nasdaq-100 Risk-Managed Income ETF (NYSE Arca: NUSI) to seek current income with a measure of downside protection.

NUSI follows a rules-based options trading strategy that seeks to produce high income using the Nasdaq-100 Index, an index of the 100 largest non-financial stocks on the Nasdaq exchange. The ETF may potentially complement traditional equity and fixed income allocations or function as a possible hedge for investors.

The Nationwide Risk-Managed Income ETF establishes a collar strategy to generate monthly income. Collar strategies involve holding shares of the underlying stock while at the same time buying protective put options and writing calls for the same security. A put option gives its owner the right but not the obligation to sell the underlying asset at a specified price and on a specified date. A call option gives its owner the right but not the obligation to buy that asset instead.

For more news, information, and strategy, visit our Retirement Income Channel.

This article was prepared as part of Nationwide’s paid sponsorship of ETF Trends.

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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.

MFM-4475AO; Q-20220104-0243

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