Despite low rates and a now more dovish Federal Reserve, investors continue to pile into fixed income ETFs. In fact, over the trailing one year period, fixed income funds have seen aggregate inflows exceeding $40 billion, including several billion to high yield and emerging market products.
A trend towards higher risk products is clearly brewing, even when taking into account some of the major risks that are pretty well-known in the space. However, this hasn’t been universal across all of the risky bonds, as some, and in particular the Italian bond ETFs, haven’t seen a boost in interest from investors.
Instead, the two products tracking mid-term Italian debt, the DB Italian Treasury Bond Futures ETN (ITLY) and the DB 3x Italian Treasury Bond Futures ETN (ITLT) have seen outflows over the past 52 weeks. The two have combined to experience over $70 million in outflows in the trailing year, enough to put them into the bottom 15 for all the products that have been around for all of the time period in question (see 7 Biggest Bond ETFs by AUM).
This continued lack of interest, even with the desire for higher risk bonds, has left ITLT and ITLY with less than $20 million in total combined assets, making them some of the least popular bond ETFs out there. Part of this reason for the lack of popularity is undoubtedly the ETN structure, while another large chunk has to be due to the plethora of negative press that has been afflicting the Italian fiscal situation as of late.
Many had thought that the Italian economy was staring into the abyss and doomed to fall in shortly after its counterparts in Spain, Greece, and Portugal. As we have seen in recent months, however, this has not been the case as Europe has broadly taken a step back from another financial catastrophe.
Thanks to this, bond rates across the region plummeted over the course of the year with Italian securities being no exception. Rates for benchmark 10 year Italian bonds fell from a high of 6.6% all the way down to 4.5% to start 2013.
They haven’t stopped falling just because the calendar turned either, as rates are now below the 4.2% for Italian government bonds, marking a huge reversal for the country’s debt (see Italian Bond ETFs: High Risk High Reward).
This situation has been an absolute boon to those who were smart or lucky enough to get in on the space when bonds were trading at elevated levels. As while income levels have fallen, this has boosted prices beyond most investors’ wildest dreams in recent trading, leaving those few in ITLT or ITLY with enormous gains over the past year.
This comes out to roughly a 23% gain for ITLY and over 78% for the 3x leveraged version of the ETN, ITLT. While these are impressive on their own—more than doubling the S&P 500 in the time period—they thoroughly crush broad bond benchmarks as well.
If one compares ITLY to any of the U.S. government debt focused ETFs, not a single one—unleveraged or leveraged—can come within 1,000 basis points of ITLY’s return over the past year.
Instead, TYD has done the best from a leverage look (adding 5.8%), while the mid-term funds like TENZ and IEF only managed to put up a paltry 2% in the time frame (also read 3 Actively Managed Bond ETFs for Stability and Income).
So despite all the doom and gloom in the European bond market in early 2012, it didn’t really materialize into losses for ITLY and ITLT during the last 52 weeks. If anything, the concerns only helped to make the recent comeback all the more spectacular and all the more broad bond crushing.
Still, it is worth pointing out that both ITLY and ITLT are more expensive than many other products out there, thanks to their somewhat exotic exposure and their ETN structure. The weak AUM levels for both also helps to keep bid ask spreads relatively wide, so this increases the total costs for those seeking to trade the segment frequently.
Yet even with this downside, both of the Italian products have crushed the market and expectations over the past year by a pretty wide margin. The recent run has been epic though, so you need to be truly bullish on Europe before considering a new allocation to the space at this time (also read AGG vs. BND: Which Bond ETF Do You Choose?).
This underreported and under recognized story also shows us another important fact about bonds, and ETFs in general. Even with broad doom over the space, there is always a bull market somewhere, and that more often than not, there is an exchange-traded product to play the trend.
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