Investors have quickly come to fear “transitory” as last Wednesday’s advanced GDP report showed a drastic slowdown in economic growth and was followed by the FOMC rate decision and press release that stated FOMC members see this weakness as transitory. Thursday’s weekly jobless claims report drove home the fear that rates could be going higher soon as the economy hurtles towards full employment which sent the market into a tailspin. Yes rates might be going higher, but given the state of the economy, investors are wondering how shallow the rising rate cycle might be and Friday’s action may have softened the blow for equity investors but what about bond investors who saw the ten year yield jump over 10% last week?
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2015 overall hasn’t been kind to the billions in new dollars that flowed into the iShares 20+ Year Treasury Bond ETF (TLT) last year as the promise of both tighter fiscal and monetary policy sent the dollar surging and bond yields plunging. Beginning on April 1st, TLT has been rocked by the same uncertainty (and of course volatility) that has plagued the equity markets since mid-March, with the fund down 4.73% since then with the bulk of those losses coming just in the last week. Even the more diverse and less interest rate sensitive iShares Core U.S. Aggregate Bond ETF (AGG) is down over .6%, offering little comfort to those seeking protection in traditional safe havens. And while TLT saw only a minor asset outflow last week of approximately $246 million (4% of assets), the fund has seen a drop in assets of over 17% in the last three months!
So where have these prudent investors been putting capital to work? The bulk has continued to flow to the usual suspects such as floating rates, TIPS and ultrashort duration but a few intrepid investors must be regular visitors to the ETF Global blog because money has begun to flow into some of the funds offering the most sensitivity to changes in the dollar.
The shifting outlook by the Fed has sent investors fleeing from the PowerShares DB US Dollar Bullish ETF (UUP) into anything offering unhedged currency exposure. First, it was pure currency funds then emerging market funds offering pure country exposure to some of those markets hardest hit by the dollars meteoric rise last year. Now investors seeking foreign currency exposure with potentially less volatility have those bond funds that saw the worst performance in 2015. One little fund we talked about at the end of March, the Wisdom Tree Australia & New Zealand Debt Fund (AUNZ) has seen an 18% increase in assets over the last month thanks to its local currency exposure that helped propel the fund to 150 bps of outperformance over AGG since March 30th.
Among the early winners in the asset gathering race is the iShares Global ex USD High Yield Corporate Bond Fund (HYXU). With the fund’s assets up nearly 5% in the last month, it’s not hard to see why the fund is up over 4.2% in the last month compared to a loss of nearly 1% for AGG. Some of that strong performance could simply be mean reversion; during the great dollar rally that began on July 1st and ended March 13th, HYXU was one of the biggest losers in the world bond arena, down over 20.6% in just nine and a half months. Like all of the strongest bond fund performers over the last month, HYXU offers a substantial amount of unhedged Euro exposure (not to mention a heap of credit risk) but for those also looking for a more investment grade focus, there are other funds to watch. The SPDR Barclays International Corporate Bond ETF (IBND) has a great emphasis on double and single A credit quality, but consequently has more dollar denominated debt reducing the potential boost from currency exposure. Those investors who like to live a little closer to the edge might want to consider a fund that was down nearly as much during the dollar rally as HYXU despite its focus on ultrashort duration, the iShares 1-3 Year International Treasury Bond ETF (ISHG.) With three quarters of the currency exposure in the Euro and Yen, this fund might not offer much of a coupon, but could provide that inverse dollar exposure for the more proactive bond investor’s portfolio.
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