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Interest rates are rising, crimping a variety of income-generating assets in the process. However, real yields aren’t satisfactory, putting some income investors in a bind.
With aggregate bond strategies, it’s an appropriate time for investors to consider fresh income ideas. With that in mind, the VanEck CLO ETF (CLOI ) could prove to be a prime example of a well-timed new exchange traded fund.
The actively managed CLOI debuted last month and, as its name implies, focuses on collateralized loan obligations (CLOs). CLOI is subadvised by PineBridge Investments and emphasizes investment-grade CLOs, indicating that credit risk is kept in check. In fact, minimizing risk comes with the territory with CLOs, suggesting that CLOI could be an idea for conservative income investors.
“CLOs are structured to help mitigate risk, through the strength of their underlying collateral as well as built-in traits such as coverage tests to correct collateral deterioration,” according to VanEck. “This has historically helped them experience significantly lower levels of principal loss when compared with corporate debt and other securitized products. This has resulted in a track record of strong risk-adjusted returns versus other fixed income asset classes, particularly among investment grade rated CLO tranches.”
Typically in the fixed income space, lower risk means lower upside potential. That’s the usual trade-off, but with CLOs, things can be different. In fact, the asset class has a track record of beating other corners of the bond market, including some high-yield fare.
“Over the long term, collateralized loan obligation (CLO) tranches have historically 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,” added VanEck.
CLOI has 18 holdings, 90.25% of which are rated investment-grade, according to issuer data. More than three-quarters of the new ETF’s components are rated AAA or AA, confirming that credit risk is minimal.
Another point in CLOI’s favor, which is something many investors don’t realize due to lack of familiarity with CLOs, is the point that this asset class has been through turbulent times and proven sturdy.
“Through both the Global Financial Crisis and COVID-19 drawdown, the asset class ultimately experienced far fewer defaults than corporate bonds of the same rating. For example, among the nearly 17,000 U.S. CLOs issued from 1996-2020 and rated by S&P, only 0.4% experienced defaults, primarily in non-investment grade rated tranches,” concluded VanEck.
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