The best-performing fixed-income ETF so far in 2017 is, actually, an equity fund—a preferred stock fund, to be exact.
The fund has delivered roughly twice the gains of its U.S.-focused counterpart, the iShares U.S. Preferred Stock ETF (PFF)—albeit with greater volatility—and significantly higher returns than both a broad fixed-income allocation, as measured by the iShares Core U.S. Aggregate Bond ETF (AGG), and an equity allocation, as measured by the SPDR S&P 500 (SPY).
Preferred stocks are equities that behave like a bond. They typically deliver income in the form of fixed dividends, and they carry less risk than other equity securities due to their ranking in the corporate ladder.
These traits are the reason many investors include preferreds in their fixed-income allocation. They fulfill two key roles in a fixed-income allocation: diversification and additional income.
About IPFF & Other Preferred ETFs
One of the drivers of IPFF’s outperformance is strong income. IPFF currently has a 12-month trailing yield of 4.7%, according to iShares data. The higher the income relative to common stocks, the better the results.
Also, IPFF is heavily allocated to Canada—78% of the portfolio—and, in particular, Canadian banks. The Canadian financials sector is outperforming the broad composite as measured by the S&P/TSX Composite Index. The U.K. is the fund’s second-largest country allocation, at about 11%. IPFF invests in non-U.S. developed markets.
According to Michael McClary, chief investment officer of ValMark Advisers, IPFF is more sensitive to global risk events, which have not been occurring lately. He notes that the fund can act like emerging market debt.
But there are other reasons to like IPFF and preferred stock ETFs in general.
First, they typically offer a lower level of risk for what is a pretty good yield. To get similar yields in the corporate bond space, investors would have to take on the risk of high-yield bonds.
Consider that the largest investment-grade corporate bond fund, the iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD) has a 12-month trailing yield of 3.3%—nearly 1.5 percentage points lower than IPFF’s. The high-yield segment, as measured by the iShares iBoxx $ High Yield Corporate Bond ETF (HYG), is shelling out 12-month trailing yields of 5.3%.