ETFs continue to extend their reach, providing investors with more and more accessible options for investing their money. From bonds, to commodities, to stock market sectors and global indexes, through their ease of use and low fees, ETFs are providing traders with pre-packaged ways to build their portfolio. The new Market Vectors BDC Income ETF (BIZD) continues this evolution as the third ETF offering exposure to Business Development Companies (BDCs). BDCs typically lend to, or invest in, small-to-mid-cap, private or thinly traded companies at relatively high yields. Such a business provides high income potential to investors while also carrying the risks and opportunities of capital appreciation from the ETF price [Download How To Pick The Right ETF Every Time].
In a Nutshell
The fund’s goal is to track, net of fees and expenses, the Market Vectors US Business Development Companies Index in terms of price and yield. This underlying index is rules-based and intended to track the overall performance of publicly traded BDCs in the U.S.
The ETF began trading on February 11, 2013 with an expense ratio of 0.40%; this fee is capped until at least September of 2014. The only main competitors to the ETF are the UBS E-TRACS Wells Fargo Business Development ETN (BDCS), and the two-times leveraged version of the same ETN (BDCL), both with an expense ratio of 0.85%.
“Business development companies have traditionally been high-yielding, making them an attractive choice in today’s ongoing search for income,” says Brandon Rakszawski, product manager for Market Vectors ETFs. And the income potential can be impressive; BIZD has an average weighted dividend yield of 7.6%. For comparison, the SPDR S&P 500 (SPY) has a yield of 2.0%, BDCS a yield of 6.73% and BDCL a yield of 12.52% (as of February 25, 2013) [see 101 High Yielding ETFs For Every Dividend Investor].
To qualify as a BDC the company must have its principal place of business in the U.S. and adhere to its laws, be registered with the SEC and be regulated as a BDC under the Investment Company Act of 1940. BDCs pay little to no corporate income tax, but must distribute at least 90% of their net investment income and capital gains/losses to investors in the form of dividends.
Like any investment, there are risks. The small, private or thinly-traded companies BDCs invest in may be susceptible to bankruptcies, defaults and/or significant volatility in valuation due to limited financial information. BIZD also has high indirect expenses that are not included in the expense ratio of 0.40%. The expense ratio (0.40%) is “taken off the top,” reducing the fund’s net assets. An indirect expense is engrained in the cost of business, but it still must be considered as it can affect long-term price performance of the fund. Indirect expenses are expected to be 7.16%, giving a Net Expense Ratio of 7.56%. Since the structure of BDCS is an ETN, and does not therefore directly invest in BDC stocks, but just tracks the index, it is not subject to these high indirect fees.
What Makes It Unique?
BIZD has 25 holdings in its portfolio, with Ares Capital (ARCC) representing nearly 16% of those holdings. BDCS is slightly more diversified, with its index holding 28 companies, with the largest representing about 10% (again Ares Capital).
Beta–a measure of volatility relative to a major benchmark such as the S&P 500–is 1.37 on BDCS. While it is too early to determine the beta of BIZD, it is likely BIZD will have a beta comparable to its competitor. This beta level indicates it is more volatile than investing in a broad-based index such as the S&P 500. BDCL is leveraged, and therefore has a high beta rating of 2.31, making it twice as volatile as BDCS, and likely BIZD [see also 10 Questions About ETFs You've Been Too Afraid To Ask].
When deciding whether to invest in BIZD or BDCS, one main determinant will be their structure. BIZD is an ETF and may be exposed to errors while tracking its index. BDCS on the other hand is an ETN; a debt instrument, which means the fund is not only reliant on the performance and yield of the index but also the credit worthiness of the issuer UBS (currently in very good standing).
Under the Hood
The BDCs that the ETF invests in are public traded companies, but the companies that BDCs invest in and lend money to are usually privately held, and may be start-ups with minimal cash flow or speculative in nature. Therefore, the ETF can be considered an indirect investment in these small companies, providing a high-income yield that’s above average price volatility [see 8% Yield ETFdb Portfolio].
In order to be included in the underlying Market Vectors US Business Development Companies Index—which the ETF tracks—the BDC must have a market capitalization of at least $150 million, daily average trading volume (three-month average) of at $1 million and monthly trading volume in excess of 250,000 (over past 6 months).
The new Market Vectors BDC Income ETF (BIZD) gives investors access to a diversified pool of business development companies in the U.S., and indirectly to the typically small high-yielding companies they invest in.
As the ETF is new, going forward investors will want to watch how this fund’s volatility compares with its nearest competitor, UBS E-TRACS Wells Fargo Business Development ETN (BDCS). At the time of this writing, the yield offered by BIZD is more attractive, but it could be offset by the higher indirect fees that could weigh on price performance relative to BDCS.
Ultimately, BIZD is attractive if you are an investor looking for high yield—expected to be around 7.60%– and are willing to accept higher risk to get it. Since it is a new fund, you’ll also want to keep an eye on volume, and whether it is adequate to enter and exit your positions easily.
Disclosure: No positions at time of writing.