The ETF ‘Barbell’ Income Solution

March 17, 2015

Asset Allocation

One of the techniques Toroso uses to address the inefficiencies of bond ETFs is to build an “income barbell portfolio.”

One example of this approach combines equal weightings of cashlike ETFs like the Guggenheim Enhanced Short Duration Bond ETF (GSY | B) and income-oriented ETFs such as the PowerShares CEF Income Composite Portfolio (PCEF). Using the two, we can synthetically construct a higher-yielding and less volatile portfolio than investors can find with traditional bond ETFs.

As shown above, both ETFs score very high on the RAEI ratio. And, not least, their combination creates a very attractive yield of 4.58 percent with duration of 1.56 years, and a RAEI ratio of 1.20.

Beyond The Traditional Barbell

Historically, when pursuing a bond barbell strategy, investors purchase short-term and long-term bonds only. Theoretically, this provides the best of both worlds. At the high end of the barbell, you lock in higher rates. On the short end of the barbell, investors have less interest rate and credit risk. And when short-term bonds mature, investors use their proceeds to reinvest.

An “income barbell portfolio” expands the potential universe of income-oriented investments. Toroso constructs the risk end of the income barbell by combining ETFs consisting of bonds, closed-end funds, preferred stocks, dividend producing common stocks, REITs and income-oriented MLPs.

Meanwhile the safety component, which consists of cash-equivalent ETFs, reduces volatility and provides a compounding base to protect principal.

In summary, by selecting bond ETFs by evaluating their excess yield adjusted for their past volatility combined with a barbell allocation, Toroso believes that an ETF portfolio can produce results similar to a direct investment in a bond.

At the time this article was written, Toroso owned shares of PCEF, SHY and GSY on behalf of clients as part of core portfolios.


Toroso is a New York-based investment advisor focused on researching ETFs and other exchange-traded products and designing asset allocation strategies, using ETFs, which seek to perform well in various economic climates while emphasizing future objectives over past correlations. For more information about Toroso, call us at 646-545-5195, visit us at www.torosoinv.com or email us at [email protected]. For a list of relevant disclosures, please click here.

 

 

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