Searching for yield with fixed-income ETFs

While interest rates were low prior to the pandemic, the economic fall-out from Covid-19 has intensified the low-yield environment, adding to the challenge for fixed income investors.

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“2021 has been a challenging year for fixed income,” said David Stephenson, director, ETF strategy and development at CIBC Asset Management, in a recent interview. 

Although bonds still provide stability to investor portfolios and diversification from equity risk, yields on bonds — especially government bonds — are “ultra-low,” he said.

The FTSE Canada Universe Bond Index is on track to have only its second negative calendar-year return since the turn of the century, Stephenson noted, and its worst year since 1994 when the index was down 4.3%.

Moreover, investors remain concerned about inflation. So where do ETF investors looking to generate income find higher yields?

Given the difficult market environment for fixed income, Stephenson said actively managed ETFs are resonating with investors. And the good news, he said, is that the Canadian ETF market “offers ample product choice and precise exposures to tailor a higher yield.” 

“An unconstrained fixed income manager could complement the core bond holding by finding the best opportunities for yield globally,” Stephenson said, using corporate bonds, emerging market debt, U.S. high yield and even floating-rate notes.

“The objective there is to best position a portfolio for a more efficient yield than a single spread strategy, like high yield, and add value by layering in different credit risk,” said Stephenson. 

However, he said it’s important to ensure investors are getting paid for the risk they are taking. 

“Active managers take risk-return into account, but it’s an important point for investors, as well,” said Stephenson, as they search for higher yields.

In addition, Stephenson expects to see interest increase in “one-stop fixed income solutions.”

“Much like asset-allocation ETFs have grown significantly as an all-in-one portfolio solution, an investor can purchase a one-ticket fixed income solution,” he said. These products can help navigate the low-yield environment through active management and built-in rebalancing, and they’re “tactically adjusted to take advantage of opportunities as they arise in corporate bonds, currency, or emerging market debt, for example.”

Depending on client risk tolerances and objectives, he said investors can use these portfolios as the core holding or as a disciplined fixed income core, and “augment that exposure to tailor a more precise investment.”

There are also opportunities to search for yield on the equity side of a portfolio, Stephenson said. 

For example, Stephenson highlights covered-call strategies. 

ETFs that write call options against the stocks they hold have become some of the highest-yielding products in the Canadian market, holding assets totalling about $12 billion, according to a CIBC World Markets Inc. report.

Stephenson notes that much like one-stop fixed income solutions, “investors are looking to outsource the time-consuming nature and complexity in the case of covered calls to professional managers.”

Finally, Stephenson said he likes low-volatility dividend-paying companies, saying they offer relative areas of value despite the market largely being in a “risk-on environment” this year. 

“These factors, in combination, can result in an outcome that provides investors with a yield premium to the market with lower volatility and downside protection,” he said.

This article is part of the AdvisorToGo program, powered by CIBC. It was written without input from the sponsor.