Solve Duration Concerns With Floating Rate Notes

Amid rising 30-year Treasury yields, investors are seeking alternatives to traditional duration exposure, with floating rate notes (FRNs) like those held in the WisdomTree Floating Rate Treasury Fund (USFR) gaining traction. USFR has outperformed the Bloomberg US Aggregate Bond Index by a wide margin over the past three years, exhibiting lower volatility, and has recently gained as longer-duration bonds declined; this trend may continue due to elevated government spending and potentially steady Treasury auction sizes, which could allow fundamentals to regain prominence.

Analysis

Amid a challenging environment characterized by a recent spike in 30-year Treasury yields, fixed income investors are exhibiting caution towards duration risk. Floating rate notes (FRNs) are presented as a viable alternative, with the WisdomTree Floating Rate Treasury Fund (USFR) highlighted for its characteristics. Over the past three years, USFR demonstrated notable outperformance, gaining 14.6% and surpassing the Bloomberg US Aggregate Bond Index by a margin exceeding 3-to-1, while also exhibiting significantly lower volatility. This trend of reduced volatility and positive performance has continued recently, with USFR registering gains as Treasury market jitters increased and many longer-duration instruments experienced modest declines. Supporting this, Kevin Flanagan of WisdomTree notes that 30-year government bond yields in the UK, Germany, and Japan have seen more substantial year-to-date increases, ranging from +38 to +75 basis points, compared to a more modest +26 basis points for the U.S. 30-year Treasury, suggesting U.S.-based FRNs like USFR can offer a domestic solution to duration concerns. Furthermore, elevated government spending in developed markets, including initiatives in the U.S. and Germany, is identified as a potential long-term inflationary pressure that could diminish the appeal of longer-dated government bonds and correspondingly enhance the attractiveness of FRNs. The potential for fundamentals to regain prominence, contingent on relatively constant Treasury note and bond auction sizes, is also cited as a factor that could favor instruments like USFR.

Key Decisions for Investors

• Investors concerned about rising interest rates and duration risk in fixed income portfolios should evaluate allocating to floating rate note ETFs, such as USFR, which have demonstrated lower rate sensitivity and favorable risk-adjusted returns in the current environment.
• Monitor global government fiscal policies and sovereign debt issuance trends, as sustained high spending and stable auction sizes could further support the case for FRNs relative to traditional longer-duration bonds.