SGOV - PULS: Why It's My Favorite Actively Managed Ultra-Short Bond ETF (Ratings Upgrade)

2023-10-03 14:28:03 ET

Summary

• Interest rates have been a hot topic for investors following the recent FOMC meeting.
• PULS offers a modestly riskier approach to ultra-short bond investing.
• Because of the high yield and capital appreciation potential, I rate PULS a strong buy.

Interest rates have been all over the news and on most investor's minds. After the last FOMC meeting, it appears that rates may really be higher for longer. Because of the inverted yield curve, intermediate to long-term bonds aren't too attractive right now. However, I think ultra-short bonds just keep looking better and better.

Over 3 months ago, I covered PGIM Ultra Short Bond ETF ( PULS ). This is my favorite actively managed ultra-short bond ETF. I gave PULS a Buy rating because PULS offers a riskier way to invest in a relatively risk-free asset. I'll go into more detail about this later in the article, but simply put, PULS drags out its average maturity and invests in riskier ultra-short assets to add some risk to the ETF, but because of the nature of ultra-short bonds it is still very low risk. Since I recommended it as a Buy about three months ago, PULS has returned 1.68%, outperforming both SGOV (0-3 month t-bill ETF) and BIL (1-3 month t-bill ETF) by 0.26% and 0.28% respectively.

While slightly over a quarter percent of outperformance over about 3 months may not seem like much, it's a pretty big deal in the world of ultra-short bonds. I'm now giving PULS an upgrade from a Buy to a Strong Buy.

Holdings

Probably the most surprising quality of this "ultra-short" ETF is that over 50% of its holdings are in bonds with maturities of over a year. PULS's average maturity is 1.2 years.

Right now, the majority of PULS's holdings are in corporate bonds, asset-backed securities, and commercial MBS. These three investment vehicles make up almost 62% of the ETF. PULS also offers some exposure to other fixed-income investments such as foreign commercial papers and floating-rate corporate bonds.

The credit ratings of these assets are high. Around 80% of PULS is in A-rated bonds or higher.

Yield

What makes PULS so attractive is its high yield. As interest rates shot up to two-decade highs, ultra-short-term bond yields rose with them. Most ultra short-term assets went from yielding a quarter of a percent to yielding over 5% in the last 3 years. Right now, PULS's 30-day SEC yield is 5.38%. While not by much, PULS's yield is higher than BIL's and SGOV's by 0.16% and 0.10% respectively. Again, while this may not sound like a big difference, in the world of ultra-short bonds, it is. For more risk-tolerant investors, the slightly higher yield isn't the only reason to choose PULS over BIL or SGOV.

Capital Appreciation

Looking into the future, there is some capital appreciation potential. While PULS's average maturity is short, 1.2 years, it is far longer than SGOV's and BIL's, whose average maturities both come in under 0.10 years. This means that when rates get cut, PULS will likely appreciate more than SGOV and BIL. However, it does appear that rates will stay higher for longer. If this is the case, all it means is that PULS and its peers will continue to have a high yield for longer, which is great.

Future Outlook

One of the reasons PULS is one of my favorite active ultra-short bond ETFs is because of its added risk. Let's take a look at SGOV's and PULS's total returns since mid-2020.

The most obvious distinction between the two is that PULS is far more volatile. I see this as a good thing. Notice how from mid-2020 to mid-2022 SGOV returned practically nothing while PULS substantially outperformed. This is because of the added risk PULS has. PULS's holdings have a longer average maturity and are riskier than t-bills meaning that even in times of low interest rates, PULS will continue to provide investors with a healthy yield.

A great aspect of PULS is that it is actively managed and it covers a large and diverse variety of fixed-income investment vehicles. If you want to just place your money in an ETF and forget about it, PULS is likely a better choice than SGOV or BIL. If interest rates drop back to near zero in the future, SGOV's and BIL's yield will also drop to near zero. PULS's managers will invest in higher-risk assets to make sure it continues to have a higher yield.

The Seeking Alpha quant rating also seems to be a fan of this ETF.

PULS has an A- or higher in every category except momentum. A C+ in momentum isn't a bad thing because ultra-short bond ETFs aren't supposed to have substantially recognizable upward momentum. Instead, they are supposed to have a smooth, gradual upward trend.

Risks

While PULS takes on more risk than other popular ultra-short-term bond ETFs, it is still a very low-risk investment. I believe there are a large number of investors who are looking to profit from the high ultra-short-term rates but can tolerate more risk than a money market fund or an ultra-short-term t-bill ETF. PULS is a great option for these investors.

Takeaways

PULS is an actively managed ultra-short-term bond ETF. Because of its longer average maturity and riskier holdings, I believe PULS has a higher yield, more capital appreciation potential, and a brighter future outlook than its peers. I rate PULS a Strong Buy.

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