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As liquidity wanes in the cash market, the fixed income exchange-traded fund (ETF) has emerged as an alternative product that allows investors to navigate an increasingly difficult market environment, a fact reflected in the nine-fold growth in assets under management (AuM) for corporate bond ETFs since 2009.
As a result, US broker/dealers are building out their fixed income ETF businesses to meet institutional investors’ demands in their search for more viable liquidity options, according to new research from TABB Group, “Fixed Income ETFs: Bridging the Liquidity Divide,” co-written by TABB principal, head of fixed income research Anthony Perrotta, and research analyst Colby Jenkins. They examine the meteoric growth in the fixed income ETF market and liquidity dynamics between ETFs and their underlying instruments and the ways in which broker/dealers are meeting customers’ demands.
According to Perrotta, corporate bond ETF AuM grew more than US$110 billion since 2009 as monthly notional volume traded in High Yield credit ETFs have grown from a negligible figure to more than US$21 billion since 2007.
As institutional investors find fewer viable liquidity options, they’re turning to alternatives such as Fixed Income ETFs, showing a willingness to utilize bond ETFs to manage investment flows, enhance returns and limit transaction costs, exchanging credit risk during times of stress in the underlying market.
As a result, he says, in the first quarter of 2015, AuM in credit ETFs spiked to more than US$15 billion, representing nearly 15% growth.
Despite its growth, the product does have its critics. An issue of concern specific to corporate bond ETF liquidity has been the idea that bonds on ETF ‘redemption lists’ trade differently than those that aren’t. However, says Jenkins, a two-tailed t-test measuring the statistical correlation between 41 redemption basket bonds and 358 non-redemption bonds on July 31, 2014 found negligible pricing disparity between the two sets of bonds.
Fixed Income Credit ETF Bank Integration Continuum
Moving deeper into 2015, traditional broker/dealers have told TABB they’re gaining Fixed Income ETF market-making market share alongside traditional ETF trading firms, utilizing all aspects of the Fixed Income ETF market-making ecosystem.
“In a world where managers are increasingly scrutinizing execution costs, credit exposure, in terms of inventories, and capital costs,” says Perrotta, “ETFs offer the market maker an efficient way to manage, transfer and hedge risk.”
The 15-page, 11-exhibit report is available for download to TABB Group Research Alliance fixed income clients and qualified media at http://www.tabbgroup.com/Login.aspx.
For the Executive Summary or to purchase the report, write to info@tabbgroup.com.
Other recent fixed income ETF TABB research includes “Bond ETF Entropy: Bringing Order to the Cash Bond Chaos,” also co-written by Perrotta and Jenkins, February 2015.
