7/23/2012 5:49 PM ET|
Is new money-market fund an ETF?
Actively managed, ultrashort fixed-income ETFs are marketed as an alternative to money-market funds. What’s the risk?
Two years ago, faced with clients sitting on more cash and for longer periods, investment adviser Greg Sullivan began shifting some of their cash holdings into the Pimco Enhanced Short Maturity (MINT) exchange-traded fund. "At least with this we have a chance to get a small return," says Sullivan, who is a managing director at Harris SBSB in McLean, Va.
The fund's recent SEC yield (updated every 30 days, after expenses) of 0.99% doesn't sound like much, but it sure beats the alternative -- earning zilch in a money-market fund.
The fund, says Sullivan, is one of the best places to park cash for six months to a year. If clients are counting on the cash for an immediate need or the amount isn't significant, he'll stick with a money-market fund. "But if you have $100,000 or more that's otherwise sitting idle for a year, it's worth it," he says, adding that he frequently uses the strategy if a client wants to dollar-cost-average new assets into the market.
Before rates hit record lows -- the average money-market fund now pays just 0.03%, according to iMoneyNet -- few investors made the distinction between immediate cash and intermediate cash. "People were either in money-market funds or bond funds," says Tony Davidow, portfolio strategist at Guggenheim Investments, which manages the Guggenheim Enhanced Short Duration Bond (GSY) ETF. "But with rates lower and lower, there is interest for this."
There are currently a handful of ETFs investors might use in lieu of money-market funds. Most are passive index funds such as SPDR Barclays Capital 1-3 Month T-Bill (BIL) or PowerShares VRDO Tax-Free Weekly (PVI). They all stick with very short-term, highly liquid securities and generally yield slightly more than money-market funds but less than traditional short-term bond funds and ETFs.
Only 2 funds
The universe for actively managed, so-called ultrashort ETFs is composed of just two funds, Pimco's and Guggenheim's. If money-market funds are the answer for investors' immediate cash needs, these funds are the elixir for intermediate cash needs.
Like their mutual-fund brethren, these ultrashort ETFs favor high-quality issues with average durations of less than a year. They aren't subject to the stringent regulations money-market funds are, such as rules that govern how much of a portfolio must be able to be liquidated in seven or 30 days, or limits on the maximum average weighted maturity of a portfolio. But when packaged as an ETF, investors get intraday liquidity, low costs and real-time transparency.
Investors worried that managers are stretching their boundaries need only look at what's in the portfolio. Unlike mutual funds, which don't provide real-time holding information, ETFs are an open book.
"You're less likely to have managers taking on too much risk when they have to disclose their holdings daily," says Morningstar ETF analyst Timothy Strauts, who expects to see more near-cash strategies coming to market in the near future. In June, Franklin Templeton filed for permission to offer actively managed ETFs, the first of which will be the Franklin Templeton Short Duration Government ETF. And given the likelihood interest rates will stay low, as well as the runaway success of MINT, more will likely follow.
Guggenheim rolled out its fund in early 2008 and is also among the larger actively managed ETFs, though with about $165 million in assets it's considerably smaller than MINT. The fund recently had an SEC yield of 0.45%, with an average effective duration of about 2½ months. Although Treasurys represent the bulk of the portfolio, the fund boosts yield with single-A-minus and triple-B-rated corporate bonds. Just 5% of its corporate issues are triple-A-rated. The fund isn't taking on huge risk, says Davidow, "but we believe that additional credit work allows us to pick up some extra yield."
Launched in late 2009, MINT is clearly the favorite among both individuals and institutions. With $1.7 billion in assets under management, it's the second-largest of all actively traded ETFs, just a tad behind Pimco Total Return (BOND) ETF.
To achieve extra yield without a commensurate jump in risk, MINT dances just outside the boundaries of money-market funds, which generally cannot invest in securities with maturities longer than 397 days, and must maintain a weighted average maturity of no more than 60 days.
Issuers have "flooded the market" with those types of securities and still can't meet the demand, says MINT's manager, Jerome Schneider, who also manages the $11 billion Pimco Short-Term (PSHAX) mutual fund. "To the extent you can step outside those confines, you can capitalize on that." After all, he says, it doesn't make sense to own commercial paper from an issuer paying 0.1% when you can own the same credit -- but with a maturity that's six months longer -- and get a 1% yield. Although MINT's average effective duration is less than one year, its holdings range from maturities of six months to three years.
Likewise, MINT has the leeway to take advantage of mispriced liquidity premiums. Take triple-A-rated Canadian covered bonds issued by Canadian banks and collateralized by high-quality assets. While the bonds themselves aren't guaranteed by the Canadian government, many of the underlying assets are. Yet, the yields on these securities can be far better than comparable U.S. securities. "Our (U.S.) government obligations trade at Libor minus 20 to 30 basis points, and these are Libor flat or plus 10," Schneider says. "It's not that you're taking on more risk, but that you're getting a better risk-reward trade-off.
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