BlackRock Inc. is planning to launch its first so-called "smart beta" bond fund that will adjust the holdings of a traditional bond index to achieve an equal balance of credit and interest rate risk.
The fund, which is set to launch on Thursday, arrives at a time when the market for smart beta funds, or those that use factors other than market capitalization to weight their holdings, has been rapidly expanding in the equity space but is still in nascent stages for the fixed-income market.
"You've seen this trend on the equity side, and I think you're seeing it start to accelerate on the fixed-income side," said Matt Tucker, head of iShares fixed-income strategy at BlackRock. "We definitely plan to expand this area and offer other options to investors."
BlackRock first told Reuters it was experimenting with smart beta bond strategies last May.
Traditional bond index funds are dominated by issuers with the most outstanding debt and can be concentrated in certain segments of the bond market that carry more risk. Smart beta funds seek to reduce this risk by giving more weight to alternative factors such as corporate cash flow or economic growth rates of countries, or as in the case of the new BlackRock fund, credit and interest rate risk.
The idea behind the new fund, which will be called the iShares Fixed Income Balanced Risk ETF, is to weight its holdings so that the fund's overall credit risk and interest rate risk are equally balanced 50/50.
"For U.S.-based investors, rate risk and credit risk are the primary drivers of returns," Tucker said. Interest rate risk has been in focus for investors expecting the Federal Reserve to raise rates later this year.
In the benchmark Barclays Aggregate bond index, which is commonly tracked by traditional broad bond ETFs, interest rate risk is concentrated around 90 percent.
BlackRock's new smart beta fund will include mortgages, investment-grade corporate bonds with maturities between one to five years and five to 10 years, and high-yield bonds rated BB and below. It will also use U.S. Treasury futures to adjust the fund's interest rate risk up or down to match its credit risk profile.