Simplify fixed income allocations with BMO Target Maturity Bond ETFs

Within recent memory, many investment counselling firms ran equity-heavy portfolios because stimulative rates were a feeble catalyst to devote any serious weight to bonds that paid paltry yields. 

In such an environment, investment counselling firms and their portfolio managers (ICPMs) built reputations on their stock-picking disciplines, while putting much less emphasis on bonds. It is not surprising that ICPMs naturally gravitated to equity-focused portfolios that provided much stronger platforms for firms to express their brands while also delivering significant operational efficiencies. Managing fixed income allocations requires more due diligence and, because they trade less effectively than equities, demands more resources for counselling firms trying to run efficient businesses.

Fixed Income Exchange Traded Funds (ETFs) are an excellent tool for all market participants but they hold particular benefits for investment counsellors, providing seamless execution and full transparency to model risk and return for client portfolios. They are inexpensive, scalable and represent an indispensable cornerstone for running consistent portfolios across a broad client base. 

An open-ended bond ETF, however, will always be exposed to changes in interest rates or changes in credit spreads, requiring constant monitoring over time. Depending on rate changes or movements in credit spreads, it is vital to adjust allocations over the long term to successfully manage risk and return.

Investors often seek greater stability over the short term, opting to hold individual bonds or term deposits to eliminate risk to short-term assets that will soon be dedicated toward living expenses. Individual bonds can be somewhat difficult to trade while term deposits may be limiting, often having restrictive holding periods.

Though individual bond issues may provide a known outcome, corporate bonds are more difficult to trade and do so at wider spreads. An easy solution to inject liquidity and effectiveness into investment counsel portfolios is an allocation to target-maturity bond ETFs. They provide the consistency of an individual bond with the scalability, clarity and ease-of-use of a stock — a very efficient tool to build a more stable portfolio and to maintain effective operations.

A unique portfolio construction tool, providing metrics similar to an individual bond, BMO Target Canadian Corporate Bond ETFs (2027, 2028 or 2029) can provide stability for short-term allocations, minimizing reinvestment risk associated with other target maturity ETF listings. BMO Target Canadian Corporate Bond ETFs use a static portfolio to provide clarity and consistency but also employ forward contracts in the final year before maturity. 

The structure of the BMO ETF offerings is designed to deliver a similar profile to holding a bond due to mature in a fixed year. A static portfolio is constructed, providing full transparency on issuers and sector exposure, so counsellors can meet Know Your Product (KYP) requirements. 

In the final year, forward swaps are employed to provide the consistency investors would expect in an individual bond, avoiding the variability other target maturity products invariably assume when they revert to cash as bonds mature. This structure also mitigates the reinvestment and cash deployment risks associated with competing products that revert to cash in their final year before maturity. 

Source: BMO Global Asset Management.

As mentioned above, as the individual issuances mature during the last year of a traditional target maturity bond ETF, the proceeds are reinvested in cash-like instruments until the vehicle hits its Fund Termination date towards the end of the year. This creates said reinvestment risk, reducing certainty around the final redemption amount and precise all-in yield. BMO GAM solves for this by using forward swaps to lock in the rate for the final year, where yield certainty is provided for irrespective of rates.

BMO Target Canadian Corporate Bond ETFs satisfy an important need in constructing a scalable investment counselling business. Like other fixed income ETFs, they inject exchange-based liquidity and transparency into bond management, representing a measurable improvement over the trading of individual bond issues. Like a bond, they provide a consistent risk and return profile to enable investment counsellors to exercise more control of client cashflow and reinvestment risk for short-term assets. 

These next-generation target maturity listings enhance bond management for all professional investors. They combine the ease of use common to all ETFs with the risk & return profile of short-term bonds so advisors of all kinds can exert more control over outcomes, enhancing overall client experiences. Using a proven risk management tool to reduce variability in outcomes should help investment counsellors construct stronger portfolios, deepening long-term relationships.

Please contact your BMO institutional sales partner for additional market insights.