Last week I wrote about the rise of fixed income exchange-traded funds (ETFs) among investors eager to battle rising rates. This week, Greenwich Associates released timely data showing how institutional investors are turning more and more to fixed income ETFs as they seek out liquidity and shift to a more strategic approach to bonds.
The numbers are pretty impressive. Of those institutions using fixed income ETFs, 59% are allocating more than 10% of their bond portfolios to them. And one-third of current fixed income ETF users have plans to boost their allocations in the next year.
But just as the numbers tell a story of growing popularity and uptake, the report also reveals a couple of other important trends.
The first is a big shift in mindset around where ETFs fit on the sell-side. Ever since the first ETF was traded on the Toronto Stock Exchange more than 25 years ago, ETFs have been firmly rooted at the equity desk, with investors getting most of their information about them from their brokers (36% of institutions surveyed say their brokers actively quote markets in ETFs).
However, according to Greenwich that’s changing as ETFs become a mainstream way for big investors to access fixed income. Now the ETF business is moving over to the bond desk of sell side managers where fixed income teams are becoming a lot more prominent behind the scenes, providing liquidity and keeping the market ticking along.
The bottom line: your bond dealer could be calling you up to talk about ETFs in the very near future.
But while the bond desk is gaining prominence in the ETF space, there are a few key barriers to growth. And this is the second key trend I saw in the Greenwich report. Despite concerns over liquidity and access, a lot of institutions face major constraints when it comes to using ETFs in their bond portfolios. The top barriers cited are:
- Investment guidelines don’t allow the use of bond ETFs
- Belief that they’re more expensive than alternatives
- The perception that trading volumes are low
There will no doubt be a significant push to clarify and dispel any myths around costs and volumes (ongoing misconception among investors) but it’s up to investors to re-examine their investment guidelines and determine whether or not fixed income ETFs are a good fit. But with bond markets getting trickier to navigate, there might be ample incentive for fixed income-hungry investors to shift into the ETF space to get what they need.