The investment industry isn’t unlike the fashion world, where the latest trends from the runways of Paris are quickly copied, manufactured and made available to everyone via the mall at a fraction of the price of their couture originals. Call it the democratization of fashion, as men and women can now try out the latest trends without having to spend a month’s wages on a coat or suit.
That kind of democratization has been happening for years in the exchange-traded fund (ETF) space, where growing institutional trends are quickly mirrored by ETF providers that can respond to investment trends via low-cost and easy-to-access products. Some products endure, while others fail to attract much attention and quickly fade away.
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In 2012, the ETF world was all about junk, as providers sought to feed investors’ appetite for high-yield debt through a series of junk bond-based ETFs. Throughout the year, capital surged into junk ETFs as investors continued their hunt for yield in a high-volatility, low-return investing world.
But, as the post-election fiscal cliff looms south of the border, a major new trend is emerging: bank loans. Designed to track floating-rate senior loans, bank loan ETFs are drawing investors in record numbers as the gap between yields on bonds and loans continues to tumble. Two years ago, for example, Invesco Ltd. started the first ETF dedicated to loans—the PowerShares Senior Loan Portfolio (NYSEArca: BKLN) is now the third-largest speculative-grade debt ETF with $1.2 billion of assets, according to Bloomberg.
By contrast, the speed at which investors have been pulling money from high-yield corporate bond ETFs has been stunning. According to IndexUniverse, since the end of September, investors have pulled $607.6 billion from iShares iBoxx High Yield Corporate Bond (NYSEArca: HYG) and $532.5 million from SPDR Barclays High Yield Bond (NYSEArca: JNK). At the same time, they have poured $405.1 million to PowerShares Senior Loan Portfolio during the same period.
The space is expanding. Private equity giant Blackstone Group is planning to launch its first ETF based mainly on loans, according to Bloomberg, which also reports that Pyxis Capital LP (spun off from Highland Capital Management LP) is doing the same thing.
Whether or not Canadian investors will be drawn to speculative-grade corporate debt remains to be seen—their eyes are wide open to the risks, particularly in the wake of the 2007 asset-backed commercial paper crisis. But, given the challenges in the bond market today, they might be willing to give it another chance. Transparency, however, will be paramount.