USFR - FLOT: A Good Fund But Better Opportunities Elsewhere

2023-11-23 02:54:57 ET

Summary

• iShares Floating Rate Bond ETF is a fund that provides exposure to U.S. dollar-denominated, investment-grade floating rate bonds.
• FLOT has performed well with rising interest rates, as floating rate bonds adjust their interest payments accordingly.
• FLOT offers low interest rate risk, high credit quality, and an attractive yield, making it suitable for conservative income investors.

Not all bonds can be called fixed income. Floating rate bonds have been beneficiaries of rate hikes given how interest payments adjust. That's what's made the iShares Floating Rate Bond ETF ( FLOT ) an interesting bond play over the last two years. FLOT is a fund that provides exposure to U.S. dollar-denominated, investment-grade floating rate bonds with remaining maturities under five years. It's done quite well with rates rising.

Floating rate bonds, also known as Floating Rate Notes (FRNs), are debt instruments with variable interest rates that are tied to a benchmark rate like LIBOR or the Fed funds rate. These bonds can be issued by various entities such as financial institutions, governments, and corporations and typically have maturities ranging from two to five years. The interest rate of an FRN is calculated using an index rate and a spread, and it's applied to the FRN's par value daily, allowing it to accumulate interest. They are considered short-term investments and are attractive to investors as they can benefit from higher interest rates. However, they also carry risks such as interest rate risk and default risk.

FLOT is a fund designed for investors seeking diversified exposure to over 300 shorter-term investment grade bonds. It carries minimal interest rate exposure and offers an attractive annualized distribution yield. Its low credit risk and low-interest-rate risk make it a suitable option for conservative investors and retirees. The fund is managed by BlackRock, a global leader in investment management, and is listed on the Cboe BZX Exchange.

FLOT's Portfolio Holdings

The holdings of FLOT are primarily composed of shorter-term bonds and securities. The portfolio's weighted average yield to maturity was 6.29%, and the 30-day SEC yield was 6.08%. The weighted average maturity was 1.72 years.

The top 10 holdings make up 31% of the portfolio. Fairly diversified mix here.

FLOT's portfolio is heavily tilted towards the Banking Sector, which makes up over 50% of the holdings. This is followed by supranational institutions and insurance companies.

Credit Quality of FLOT

In terms of credit quality, FLOT's portfolio is investment-grade, with 23.29% of holdings rated AAA, 15.55% rated AA, 51.48% rated A, and 9.34% rated BBB. This high credit quality reduces the default risk and contributes to the stability of the fund.

Peer Comparison: FLOT vs. Other Similar ETFs

When compared to similar ETFs, FLOT stands out due to its low fees, high liquidity, and quality of holdings. The WisdomTree Floating Rate Treasury ETF ( USFR ) and the Janus Henderson B-BBB CLO ETF ( JBBB ) are two comparable ETFs. FLOT has done better overall.

Pros and Cons of Investing in FLOT

Pros

1. Low Interest Rate Risk: FLOT's holdings have floating interest rates that adjust to reflect changes in market interest rates. This feature significantly reduces the fund's interest rate risk.

2. High Credit Quality: The fund's investment in high-grade bonds reduces credit risk.

3. Attractive Yield: FLOT offers an attractive yield compared to many other short-term fixed income investments.

Cons

1. Credit Risk: Despite the high credit quality, there is still some credit risk involved in investing in FLOT.

2. Interest Rate Uncertainty: While floating rate bonds protect against rising interest rates, they may underperform if interest rates fall.

Conclusion: Should You Invest in FLOT?

FLOT offers an attractive investment opportunity for those seeking exposure to short-term, investment-grade floating rate bonds. It combines low interest rate risk with an attractive yield, making it a suitable option for conservative income investors. Having said that, while FLOT has its merits, there might be other bond plays now that offer more competitive returns, particularly if the Fed is done hiking rates. Good fund though.

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