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FLOT vs. FLRN: The Best Floating Rate ETF

Zacks Equity Research

The Fed rate hike may be just around the corner and investors have started probing every possible safe option in a likely rising rate environment. A barrage of solid economic data, including a more-than-seven-year low unemployment rate in August, an improving service sector, decent consumer confidence, and a pretty strong housing market raised speculations over the first rate hike in more than nine years.

Investors should note that while fixed income investing underperforms in a rising rate environment, there are several plays, even in the bond market, that could ward off rising rate worries. A floating rate instrument is such an option (read: 4 ETF Areas to Watch Ahead of the Fed Meeting).

Floating rate notes are investment grade bonds that do not pay a fixed rate to investors but have variable coupon rates that are often tied to an underlying index (such as LIBOR) plus a variable spread depending on the credit risk of the issuers. Since the coupons of these bonds are adjusted periodically, these are less sensitive to an increase in rates compared to traditional bonds (read: Hedge Rising Rates with Floating Rate ETFs).
 
Unlike fixed coupon bonds, these do not lose value when the rates go up, making the notes ideal for protecting investors against capital erosion in a rising rate environment. Below we highlight two popular floating rate bond ETFs and try to figure out which one is a better bet at the current level (read: Guide to Interest Rate Hikes and ETFs: 4 Ways to Play):
 
iShares Floating Rate Note ETF (FLOT)

This is the most popular fund in the floating rate securities market space that follows the Barclays US Floating Rate Note < 5 Years Index. Holding 458 securities, the fund has an average life of 1.78 years and effective duration of 0.14 years.
 
The product has amassed over $3.60 billion in its asset base while trades in volume of 650,000 shares per day on average. Sector-wise, the fund invests over half of its assets in banking followed by 8.4% weight in areas with no guarantee. Companies like J.P. Morgan (4.12%), Goldman (4.07%) and Citigroup (3.49%) are top three holdings of the fund.
 
Bonds with 1–2 years of maturity have the highest exposure of 33.17% in the fund while bonds with 0–1 years take the second position with 28.69% weight. Expense ratio comes in at 0.20%. The fund is off 0.02% so far this year (as of September 11, 2015) and yields about 0.48%.
 
SPDR Barclays Investment Grade Floating Rate ETF (FLRN)

This ETF tracks the Barclays U.S. Dollar Floating Rate Note < 5 Years Index with average maturity of 1.73 years and modified duration of 0.12 years. It holds 445 securities and has been able to accumulate $387 million in its total asset base. The fund charges 15 bps in annual fees while volume is moderate at under 30,000 shares.
 
Sector-wise, the product is tilted toward the financial sector with 61% exposure followed by the industrial sector (25.43%). Individual holding-wise, no stock holds more than 1.60% in the fund. Goldman gets the top priority followed by Kommunalbanken (0.97%) and Toronto-Dominion Bank (0.91%).
 
Here also, bonds with 0–1 years and 1–2 years of maturity hold top positions with 30.88% and 36.21%, respectively.  It has lost 0.3% in the year-to-date timeframe and has a dividend yield of 0.59% (as of September 11, 2015).
 
Which One is the Better Bet?


While both options are pretty intriguing in a rising rate environment and quite similar in nature, there’s a subtle difference between the two that might give one ETF an edge over the other in a rising rate environment. The chart below details the two bond ETFs:
  

 

FLOT

FLRN

Effective Maturity

1.78 years

1.73 years

Effective Duration

0.14 years

0.12 years

Default Risks

Slightly higher FLRN

Slightly lower than FLOT

Interest Rate Risks

Slightly higher FLRN

Slightly lower than FLOT

Concentration Risks

Slightly High

Slightly Low

Expense Ratio

0.20%

0.15%

Yield

0.48%

0.59%

 
 
To sum up, both FLOT and FLRN both have high exposure in the better-performing financial sector. Both handle around 450 bonds and certain international exposure, but are dollar-denominated in nature. Yet, FLRN appears a less risky product compared with FLOT going by various risk matrixes. FLRN is cheaper too.
 
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ISHARS-FL RT BD (FLOT): ETF Research Reports
 
SPDR-BC IG FR (FLRN): ETF Research Reports
 
To read this article on Zacks.com click here.
 
Zacks Investment Research
 
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