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By Kevin Flanagan, WisdomTree Investments
Special to the Financial Independence Hub
What do almost all major global bond markets have in common thus far in 2019? You guessed it: lower rates. As a result, investors have returned to an environment that could be characterized as “yield challenged” and one that had become all too familiar before last year’s run-up in rates.
Typically, the search for yield comes with added risks as investors either move too far out in duration or lower their credit quality constraints. But what if an investor could enhance yield in their fixed income portfolio while maintaining familiar risk profiles?
Before we focus on a solution, let’s first garner some insights into the Canadian bond market. Similar to the situation south of the border, the Canadian rate outlook going into 2019 was not geared toward a lower rate setting. From a policy perspective, the Bank of Canada (BOC) was projected to continue on its rate hiking path. Prior to the December 2018 U.S. Federal Reserve meeting (the point when expectations began to reveal some change), the implied probability for a BOC rate hike by April was placed around 75% (for those interested, the figure for a rate cut was under 2%). Fast-forward to May 23, and the readings for a rate hike or cut by the end of October are almost split evenly at a little more than 20% each.
CAD 10-Year
How about the Canadian government bond market? As the adjacent graph clearly illustrates, after the 10-Year yield peaked at 2.60% in early October last year, the trend to the downside has been unmistakable.
There was a brief rebound after it bottomed out in late March, at a little more than 1.50%, but since then, a more range-bound pattern has emerged. Interestingly, at around 1.70%, the yield as of this writing is back to its early-2017 level.
Conclusion
Now, let’s get to the solution. WisdomTree has created an approach to enhance yield while maintaining a risk profile similar to one that an investor would encounter by following a market-cap based benchmark, such as the Bloomberg Barclays Canadian Aggregate Index (CAD Agg). The Bloomberg Barclays Canadian Aggregate Enhanced Yield Index (CAD Agg Enhanced Yield) uses a rules-based approach to reallocate across sectors in the CAD Agg in order to achieve these two goals.
In our opinion, the WisdomTree Yield Enhanced Canada Aggregate Bond Index ETF (CAGG), which tracks the CAD Agg Enhanced Yield, provides a solution for income-oriented investors who are looking to pragmatically enhance yield in their portfolio, and can be considered an integral part of a core fixed income strategy.
Unless otherwise stated, data source is Bloomberg, as of 5/23/19.
As part of WisdomTree’s Investment Strategy group,
Kevin Flanagan serves as Senior Fixed Income Strategist. In this role, he contributes to the asset allocation team, writes fixed income-related content and travels with the sales team, conducting client-facing meetings and providing expertise on WisdomTree’s existing and future bond ETFs. In addition, Kevin works closely with the fixed income team. Prior to joining WisdomTree, Kevin spent 30 years at Morgan Stanley, where he was most recently a Managing Director. He was responsible for tactical and strategic recommendations and created asset allocation models for fixed income securities. He was a contributor to the Morgan Stanley Wealth Management Global Investment Committee, primary author of Morgan Stanley Wealth Management’s monthly and weekly fixed income publications, and collaborated with the firm’s Research and Consulting Group Divisions to build ETF and fund manager asset allocation models. Kevin has an MBA from Pace University’s Lubin Graduate School of Business, and a B.S in Finance from Fairfield University
