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Popular short-term ETFs offer higher yield, but add risk, says Fitch


Fitch Ratings has noted the growing popularity of short-term fixed-income Exchange Traded Funds, or ETFs –short-term bond funds that market themselves as a close alternative to money market funds.

One example that underscores the growing popularity of this product is the PIMCO Enhanced Short Maturity Strategy ETF (MINT). The objective of MINT is the maximum current income consistent with preservation of capital and daily liquidity, identical to that of MMFs.

According to Fitch, the fund has reached USD1.5 billion in the 2.5 years since its inception in November 2009. MINT currently offers a 0.96% 30-day yield versus an average 0.03% yield delivered by taxable MMFs, according to iMoneyNet – a sizeable difference, says Fitch, and one that underscores the allure for investors in traditional MMFs.

Investors also benefit from additional transparency with actively managed ETFs, as they are obligated under Securities and Exchange Commission rules to disclose their portfolio holdings daily versus monthly for MMFs.
Still, while the additional yield could attract investors that target certain and specific expected return with their cash investments, we believe the attendant risks of these vehicles should be understood, thoroughly analysed, and not be confused with conservatively managed MMFs. The higher yields from alternative short-term cash management vehicles entail additional credit, interest rate, and liquidity risks that must be considered by investors.

Fitch’s analysis of PIMCO’s MINT holdings (as of April 4, 2012) showed close to 30% of the fund’s assets invested in securities that would not be eligible for MMF holdings, including some investments in “junk” rated securities (0.61% of the fund’s assets). Furthermore, the fund duration of close to one year implies that this fund assumes significantly higher interest rate risk relative to an average Fitch-rated prime MMF, whose WAM stood at 38 days (0.1 year) at the end of February 2012.

Additionally, ETF investors are highly dependent on secondary market activities for their liquidity, which could be constrained during times of market stress and when investors may need their cash the most. A reliance on secondary market liquidity for these “near-cash” investments may prove too volatile relative to some investor expectations and risk appetites.


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