FIXED INCOME LIQUIDITY MANAGEMENT

Case studies are for illustrative purposes only; they are not meant as a guarantee of any future results or experience, and should not be interpreted as advice or a recommendation.

Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.

THE BUYER

Asset manager makes allocation of €150 m to iShares corporate bond ETF.

THE BACKGROUND

Asset managers need liquidity to fund subscriptions and redemptions while remaining invested to avoid cash “drag” that often leads to underperformance. The certainty of execution matters most in assets such as high yield bonds, where transacting in individual securities can be time-consuming and expensive.

THE CHALLENGE

Following the selloff in March, the asset manager wanted to improve the liquidity of the portfolio while maintaining the desired asset allocation in EUR-denominated high yield credit. The existing portfolio consisted of single line bonds, but as liquidity in the underlying high yield bond market become more challenged during March, the asset manager was looking for a tool that would allow them to stay exposed to the market while helping to manage flows in the fund.

THE TRADITIONAL APPROACH

Traditionally, high yield bond fund portfolio managers created liquidity tiers, or “sleeves,” using the most liquid securities within a given asset class and cash-like instruments including money market funds.

THE FIXED INCOME ETF APPROACH

The asset manager assessed Corporate bond ETFs as a tool to replicate their portfolio, while efficiently managing risk and liquidity. Average daily trading volumes in Corporate bond ETFs rose to US$262 million in March with the largest volume day seeing US$695 million (13 March) (vs 2019 average: US$133million). While spreads on Corporate bond ETFs widened in March (to 42bp from 5bp in January), they remained well inside where the underlying market was trading. By April, spreads had halved to 22bp.*

By using iShares corporate bond ETF in their liquidity sleeve, this asset manager avoided cash drag, added liquidity and cost efficiency and created operational scale to rebalance allocations.

Combining high yield index returns and short dated EUR government bonds has less cash drag

Index performance 1 July 2019 to 30 June 2020 1 July 2018 to 30 June 2019 1 July 2017 to 30 June 2018 1 July 2016 to 30 June 2017 1 July 2015 to 30 June 2016
Markit iBoxx EUR Liquid High Yield Index (IBOXXMJA) -2.92% 4.65% 0.19% 7.75% 1.14%
Bloomberg Barclays Euro Short Treasury (0-12 Months) Bond Index (LA09TREU) -0.38% -0.28% -0.51% -0.43% -0.09%

Source: Bloomberg, as of 30 June 2020. The figures shown relate to past performance. Past performance is not a reliable indicator of current or future results.

Combining high yield index returns and short dated EUR government bonds has less cash drag

Past performance is not a reliable indicator of current or future results and should not be the sole factor of consideration when selecting a product or strategy.

Source: Bloomberg, returns by index, cumulative returns from 31 December 2014 - 30 June 2020. Index performance is for illustrative purposes only. Index performance does not reflect any management fees, transaction costs or expenses. Indices are unmanaged and one cannot invest directly in an index. An investment in fixed income funds is not equivalent to and involves risks not associated with an investment in cash.

"IBOXXMJA and LA09TREU are the most commonly used indices to the asset classes being represented (EUR high yield and EUR short date govvies)."

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or financial product or to adopt any investment strategy. The opinions expressed are as of 13 October 2020 and may change as subsequent conditions vary.

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