FLRN - 3 Floating Rate ETFs For Income Investors And Retirees

2023-07-19 14:13:00 ET

Summary

• Floating rate securities offer investors strong, above-average yields with little in interest rate risk.
• There are several ETFs focusing on these securities.
• Three stand out, and offer strong investment opportunities for income investors.

Looking through interest rates across fixed income securities , I noticed something peculiar. Floating rate securities yield more than comparable fixed income securities across credit ratings, asset classes, and maturities. Rates for these securities would almost certainly decrease if the Fed cuts rates next year, as the market expects , but these remain attractive. Investors looking to capitalize on strong floating rate security yields have a variety of ETFs at their disposal. Three stand out.

The WisdomTree Floating Rate Treasury Fund ETF ( USFR ) invests in floating rate treasuries, and sports a 5.2% SEC yield. The fund is of comparable credit risk to T-bills, yields marginally more, and has outperformed said securities since inception. USFR is the safest, lowest-yielding fund in this space.

The SPDR Bloomberg Investment Grade Floating Rate ETF ( FLRN ) invests in investment-grade, floating rate bonds, and sports a 5.8% SEC yield. The fund is of comparable credit risk to investment-grade, fixed rate bonds, yields marginally more, and has outperformed said securities these past few years. FLRN is a bit riskier than USFR, but remains a very low risk fund overall.

The SPDR Blackstone / GSO Senior Loan ETF ( SRLN ) invests in senior loans, almost all of which are floating rate loans issued by non-investment grade companies. The fund sports a 8.8% SEC yield. SRLN is of comparable credit risk to high-yield bonds, yields marginally more, and has outperformed said securities these past few years. FLRN is on the riskier side in the fixed-income space, although most leveraged bond CEFs are riskier still.

In my opinion, the three funds above are all strong investment opportunities for income investors and retirees. USFR seems best for more risk-averse investors, SRLN for more aggressive, risk-seeking ones. FLRN is somewhere in the middle, but much closer to USFR's side than SRLN.

A quick table comparing these three funds to their closest fixed rate benchmark.

USFR - Floating Rate Treasuries ETF

Overview and Holdings

USFR invests in treasuries with floating rates of interest . Rates are reset weekly, and are (currently) equivalent to 3M T-bill rates plus 0.169%. Higher Fed rates means higher T-bill rates, which means higher rates for USFR's underlying holdings, and for the fund itself.

Interest Rate Risk - Extremely Low

USFR invests in floating rate treasuries, which have extremely low interest rate risk.

These securities almost immediately see higher interest rates when the Fed hikes rates. Investors in most fixed rate securities are stuck with their investments, and their yields, for years regardless of what the Fed does, even when rates skyrocket. Investors in USFR simply wait one week for rates to reset and enjoy their higher rates. ETFs sometimes take longer to hike their dividends, and these are somewhat volatile, however.

Due to the above, floating rate securities tend to outperform when interest rates increase, as was the case for USFR in 2022. The fund significantly outperformed most asset classes said year, slightly outperformed T-bills.

Credit Risk - Extremely Low

USFR invests in treasuries, which are issued by the U.S. Treasury, and backed by the full faith and credit of the U.S. government. Credit risk is effectively nil, barring an unprecedented U.S. default. Losses during downturns and recessions should be minimal / non-existent, as was the case in early 2020.

The above is a significant benefit for all investors, and particularly important for more risk-averse long-term investors, who can be certain that their investment in USFR will (almost certainly) retain its value during most economic conditions and events.

As USFR has extremely low interest rate and credit risk, asset values and share prices are incredibly stable. Share prices have oscillated between $50.04 and $50.50 these past five years, an incredibly tight range. Overall volatility is extremely low, especially in comparison to bonds.

Dividend Analysis - Good, Competitive 5.2% SEC Yield

USFR sports a 3.8% dividend yield, meaning the fund has paid 3.8% in dividends these past twelve months. Said yield is accurate, but is not indicative of the dividends investors should expect from the fund moving forward, as yields were much lower in prior months.

USFR sports a 5.2% SEC yield, which measures the actual income generated by the fund's underlying holdings in the past month. Said figure is more recent, up to date, than the fund's dividend yield, and much more indicative of the dividends investors should expect. In my opinion, at least.

Both figures compare favorably to those of T-bills, the fund's closest fixed rate analogue.

USFR's comparatively high dividends are an incredibly significant benefit for investors, and a key advantage of the fund vis a vis its peers.

Moving forward, USFR's dividends are strongly dependent on Federal Reserve rates. The Fed is expected to hike at least one more time this year . The market expects rate cuts in 2024, although these are much less certain.

Performance Track-Record

USFR's performance track-record is adequate. Returns have been positive since inception, and for most relevant time periods. Returns stagnated from 2020 to mid-2022, due to low Fed rates, but have been quite strong ever since, due to Fed hikes. USFR has outperformed T-bills since inception too, due to higher rates.

I last covered USFR here .

FLRN - Investment-Grade Floating Rate Bond ETF

Overview and Holdings

FLRN invests in investment-grade, floating rate bonds. These are very similar securities to those of USFR, but with a bit more credit risk, and a bit more yield. The fund invests in over 300 holdings from several industries, significantly overweight financials:

Interest Rate Risk - Extremely Low

FLRN invests in floating rate bonds, which have extremely low interest rates, for the same reasons as USFR's underlying holdings.

Dividends should see steady growth as the Fed hikes rates, as has been the case since 2022.

The fund should outperform when interest rates are rising, as has been the case since 2022. Outperformance was particularly extreme relative to investment-grade fixed rate bonds, of comparable credit risk and quality to the fund, as these have above-average interest rate risk / duration.

Credit Risk - Very Low

FLRN focuses on investment-grade bonds, with strong credit ratings and low default rates. The portfolio has an average credit rating of A, with a sizable allocation to AAA-rated securities.

Due to the above, the fund tends to experience very low losses during downturns and recessions, as was the case in early 2022.

As FLRN has very low interest rate and credit risk, the fund's share price is quite stable. Shares almost always trade between $30.20 and $30.50, a very tight range. There were a couple short-term dislocations in prior years, as market volatility during the pandemic caused discounts to NAV.

FLRN's low risk and stable share price are both significant benefits for the fund and its shareholders, and of particular importance to risk-averse income investors and retirees.

Do bear in mind that USFR is marginally safer, as evidenced by the fund's more stable share price.

Dividend Analysis - Good, Competitive 5.8% SEC Yield

FLRN sports a 4.3% dividend yield, and a 5.8% SEC yield. Both are reasonably good figures, and higher than those of investment-grade fixed rate bonds, the fund's closest fixed rate analogue.

Both are also marginally higher than those of USFR, due to FLRN having slightly higher credit risk.

USFR's comparatively high dividends are an incredibly significant benefit for investors, and a key advantage of the fund vis a vis its peers.

Moving forward, USFR's dividends are strongly dependent on Federal Reserve rates. The Fed is expected to hike at least one more time this year. The market expects rate cuts in 2024, although these are much less certain.

Performance Track-Record

FLRN's performance track-record is adequate. Returns have been positive since inception, and for most relevant time periods. Returns were weaker when Fed rates were lower, but have increased these past few years, as the Fed hikes rates.

FLRN has outperformed investment-grade fixed rate bonds since around 2015, underperformed before. The fund's relative performance is strongly dependent on interest rate movements, with the fund outperforming when these increase, underperforming when these decrease.

FLRN has also outperformed relative to USFR since inception, due to its higher yield.

I last covered FLRN here .

SRLN - Senior Loan ETF

Overview and Holdings

SRLN invests in senior loans, which are almost always senior secured, floating rate loans issued by smaller, non-investment grade corporations. Similar to high-yield corporate bonds, but with floating rates, issued by smaller, riskier issuers. Credit risk is materially higher than USFR and FLRN, but so are yields.

Interest Rate Risk - Very Low

SRLN invests in senior loans, which are almost always floating rate loans. There are a few exceptions, due to index rules, and as these are (somewhat) terms of art. Right now, the fund is 93% floating rate loans, 4% fixed rate bonds, and 3% cash.

As the vast majority of the fund's portfolio is floating rate, the fund should see steady dividend growth when rates increase, as has been the case since early 2022.

SRLN should outperform when interest rates increase, as has been the case since early 2022 as well.

On a more negative note, senior loan prices are dependent on many factors which could, in certain cases, lead to losses and underperformance even as rates rise. Which brings me to my next point.

Credit Risk - High

SRLN focuses on loans from non-investment grade issuers, with these accounting for over 90% of the fund's portfolio. The fund currently sports an average credit rating of B, quite low, although not excessively so.

High credit risk means high losses during downturns and recessions, as was the case in early 2020. Equities did see even higher losses, however.

SRLN's high credit risk would almost certainly lead to losses during any future downturn and recession as well, an important negative for the fund and its shareholders. High credit risk could also, in theory, impact the fund when interest rates are rising, if higher rates cause economic conditions to deteriorate and spreads to widen. Losses and underperformance could occur, although this has not been the case in the past.

Dividend Analysis - Good, Competitive 5.8% SEC Yield

SRLN sports a 7.1% dividend yield, and a 8.8% SEC yield. Both are reasonably good figures, and higher than those of high-yield corporate bonds, the fund's closest fixed rate analogue.

SRLN's dividends are also quite a bit higher than those of USFR and FLRN, and competitive with those of most asset classes and funds.

The fund's dividends are a significant benefit for shareholders, and the fund's key advantage vis a vis USFR and FLRN.

Moving forward, fund dividends are strongly dependent on Fed rates and credit spreads. Forecasting these at the same time is outside the scope of this article.

Performance Track-Record

SRLN's performance track-record is quite good, with the fund outperforming most of its peers since inception, matched the performance of high-yield corporate bonds.

SRLN has the highest realized and prospective returns of its floating rate peers, but the highest risk as well.

Conclusion

Floating rate securities yield more than comparable fixed income securities, across credit ratings, asset classes, and maturities, as the market expects the Fed to cut rates next year. Investors looking to capitalize on strong floating rate security yields have a variety of ETFs at their disposal. Three stand out.

USFR, which invests in floating rate treasuries, and sports a 5.2% SEC yield. Safest, lowest-yielding of the bunch.

FLRN, which invests in investment-grade floating rate bonds, and sports a 5.8% SEC yield. Slightly riskier than USFR, with a slightly higher yield too.

SRLN, which invests in senior loans, and sports an 8.8% SEC yield. Highest yield, and highest risk.

In my opinion, all three funds above are strong investment opportunities, and buys.

For further details see:

3 Floating Rate ETFs For Income Investors And Retirees