IInterest rates are expected to rise soon, but real yields will remain low, prompting many investors to embrace high-income exchange-traded funds.
Income-hungry investors may want to consider some of the more unique offerings in this category, including the BDC VanEck Vectors Income ETF (NYSEArca: BIZD). BIZD, the dominant name among ETFs focused on business development companies (BDCs), tracks the MVIS US Business Development Companies Index and has a 30-day SEC yield of 7.89%.
“Annual dividend yields of 7% to 10% are typical. By comparison, a high yield bond benchmark, the ICE BofA US High Yield Index, has an annual return of around 5.5%, and the S&P 500 Index a return of 1.4%. Even with bond yields expected to rise as the Federal Reserve begins to raise interest rates, BDCs offer attractive returns, with room for growth,” reports Nicolas Jasinski for Barron’s.
BDCs derive their income from the difference between the rates at which they lend money to holding companies and their own interest and debt. For example, if one of BIZD’s 25 member companies lends money to a mid-sized company at 10%, but the cost of that capital to BDC is only 3%, that’s a scenario likely to appeal to investors.
Additionally, there is rising rate protection offered by the asset class and BIZD itself. While investors often view business loans through the lens of fixed interest rates, the reality is that more than eight out of 10 BDC loans made have variable rates, which offers significant advantages in the context of the tightening of the Federal Reserve.
“Loans from BDCs tend to have floating interest rates, which means that interest income should increase as benchmark rates rise. On the other hand, BDCs tend to borrow at fixed rates, which keeps their costs stable,” according to Barron’s.
The fact that the current climate is a target-rich environment for BDCs adds to the appeal of BIZD, as many businesses need access to capital. BDCs, including BIZD member companies, fill gaps overlooked by banks and their often restrictive credit standards.
“They’re not short of targets. An influx of capital into private equity funds has led to more leveraged buyouts to fund, just as traditional banks shunned riskier lending in the post-global financial crisis era,” Barron’s concludes.
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