Actively managed exchange-traded funds are bringing in assets at an astounding rate, but the group remains a small slice of the overall ETF industry.

One obvious area in which active ETF issuers can gain market share is in fixed income securities. This is especially true this year with soaring 10-year Treasury yields, rising inflation and persistently low interest rates combining to form a toxic mix for bond assets. To make matters worse for some investors, many passive bond funds do not adapt quickly enough to fluctuations in Treasury yields.

Some regulatory advancements could also facilitate the growing adoption of active fixed income ETFs.

“Actively managed bond ETFs got the green light to use custom baskets from the SEC in September 2019, when it released the ETF rule,” says Morningstar Analyst Neal Kosciulek. “This gave the portfolio managers of the funds the flexibility to choose which bonds to put in the baskets they deliver to authorized participants to respond to redemption requests. This flexibility will go a long way in helping managers improve the tax efficiency of active bond ETFs and further enhance their attractiveness over active bond mutual funds.

Opportunities abound for active bond managers

The aforementioned rise in Treasury yields provided an opportunity for active bond ETF managers to strut their stuff in their interest rate risk mitigation efforts. However, even with this 10-year rate hike, interest rates remain low.

This indicates that there are credit opportunities that active managers can exploit, particularly with corporate bonds, both high and low quality, and international bonds – an asset class that many funds Aggregate bond liabilities barely touch.

Some active bond ETFs are overweighted in credit, notably the Invesco Total Return Bond ETF (GTO), which is the ETF’s response to the Invesco Core Plus Bonds (ACPSX). GTO’s positions in corporate debt are much higher than those found in total passive bond funds, but it holds enough government debt to provide some buffer in turbulent markets.

“In May 2021, GTO held 37% of its assets in corporate bonds, 35% in government bonds and 24% in securitized bonds,” adds Kosciulek. “GTO’s significant shift to government-issued debt has caused its performance to deviate from the mutual fund. For example, during the liquidation caused by the coronavirus, the ETF fell 7.51% while the mutual fund fell 8.88%.

Another way for active bond ETF managers to attract investors is to offer funds that directly harness existing fixed income expertise. Some have already done so, and others are on their way. For example, T. Rowe Price recently filed plans for the T. Rowe Price Total Return ETF, the T. Rowe Price QM US Bond ETF and the T. Rowe Price Ultra-Short Term Bond ETF.

For more news, information and strategy, visit Active ETF Channel.

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

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