With inflation still residing at multi-decade highs, the Federal Reserve may have no choice but to continue raising interest rates, though potentially in less aggressive fashion than last year. Still, higher interest rates can potentially pinch an assortment of income-generating asset classes, prompting advisors and investors to consider alternatives.
Collateralized loan obligations (CLOs) fit the bill as alternative sources of income, and they’re accessible to a broad audience of investors thanks to exchange traded funds such as the VanEck CLO ETF (CLOI ).
There’s no denying CLOI’s income profile. As of February 15, the ETF sports a 30-day SEC yield of 6%, according to VanEck data. This proves that CLOs at least merit a place in the conversation among the fixed income assets that investors frequently turn to in search of big yields.
“Over the long term, CLO tranches have performed well relative to other corporate debt categories, including leveraged loans, high yield bonds, and investment grade bonds, and have significantly outperformed at lower rating tiers,” noted VanEck director of product management William Sokol.
Among the more direct benefits offered by CLOI are the facts that the ETF makes a sophisticated asset class more approachable to a broader swath of investors and it’s actively managed. The latter point is particularly relevant at a time when bond investors are concerned about both credit and interest rate risk. On a related note, investors considering CLOI may encounter more attractive spread opportunities.
“CLO spreads have historically been significantly wider than those of other debt instruments, reflecting both the structured nature of CLO debt, the underlying loan portfolios as well as relatively lower liquidity and certain regulatory requirements. Compared with investment grade corporates, as well as other higher-yielding debt sectors—notably high yield and leveraged loans—CLO spreads are especially compelling,” added Sokol.
Further adding to the allure of CLOI is the fund being sub-advised by PineBridge Investments. In the CLO space, experience and relationships matter when it comes to identifying value and reducing risk.
“A CLO tranche portfolio manager who can identify relative value across the CLO capital stack can add value by allocating to more attractively valued segments while avoiding those that are overpriced. Relative value analysis between primary and secondary market deals also plays a role, and a CLO investor must have both access and trading expertise to source attractive deals. From a risk management perspective, the CLO tranche portfolio manager must manage downgrade risk,” concluded Sokol.
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