BlackRock launches USD ‘fallen angels’ bond ETF

May 23rd, 2018 | By | Category: Fixed Income

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BlackRock has launched the iShares US Fallen Angels High Yield Corp Bond UCITS ETF (USFL LN), providing exposure to US dollar-denominated ‘fallen angels’ – bonds that were rated investment grade upon issuance but have since ‘fallen’ to high yield status.

The iShares US Fallen Angels High Yield Corp Bond UCITS ETF has listed on LSE.

‘Fallen angels’ are bonds that were rated investment grade upon issuance but have since ‘fallen’ to high yield status.

The ETF listed on London Stock Exchange (LSE) in April and already has over $100 million in assets under management. The fund, which trades in US dollars, is physically replicating and has a total expense ratio (TER) of 0.50%.

The fallen angels strategy is based on the premise that the overly negative sentiment surrounding a downgrade into junk status causes fallen angels to be regularly oversold as investors (often forced by their investment mandate) sell en masse prior to and at downgrade, leading to a price anomaly.

It is worth noting that original-issue high yield bonds tend to offer relatively higher income and lower duration than fallen angels.

USFL tracks the Bloomberg Barclays US High Yield Fallen Angel 3% Capped Bond Index, and currently offers a weighted average yield to maturity of 5.8% with an effective duration of 5.9 years. Income generated within the fund’s portfolio is distributed to investors.

Although the fund mostly harnesses the returns of US-based bond issuers (73.0%), it does offer some exposure to issuers located in other developed markets. The UK (5.7%), Italy (4.6%), Luxembourg (3.3%), Canada (3.2%), and Germany (3.2%) make up the bulk of the fund’s ex-US issuer positions, with significantly smaller investments in bonds from issuers domiciled in Japan, France and Sweden.

The largest sector exposures are energy (24.2%), basic industry (14.0%), communications (12.7%), and banking (10.7%).

By credit rating, bonds rated “BB” presently account for exactly two-thirds of the fund, with lower-rated “B” and “CCC” categories allotted 20.4% and 6.5% weights respectively. As one would expect with a fallen angel ETF, BBB-rated securities only comprise a small fraction (1.6%) of the credit exposure.

The ethos of USFL is rooted in BlackRock’s inaugural Europe-listed fallen angels ETF—the iShares Fallen Angels High Yield Corporate Bond UCITS ETF (WING LN)—which launched on LSE in June 2016. Since that time, WING has grown its AUM to $430m across accumulating, distributing and currency-hedged share classes.

WING adopts a similar strategy to USFL but has a broader scope in that it also selects bonds denominated in other major currencies as well as the US dollar.

WING tracks the Bloomberg Barclays Global Corporate ex EM Fallen Angels 3% Issuer Capped Index and has a TER of 0.50%. The fund trades in US dollars, pounds sterling and euros, with listings on both LSE and Xetra.

Another US fallen angels ETF play listed in Europe is the PowerShares US High Yield Fallen Angels UCITS ETF (HYFA LN). This fund is linked to the innovative smart beta-esque Citi Time-Weighted US Fallen Angel Bond Select Index, introduced by Citigroup in November 2015.

The index is time-weighted, allocating higher weights to bonds that have been downgraded most recently in an attempt to maximise the return from any ‘V-shaped’ bounce the downgraded bonds may exhibit.

Unlike traditional bond indices, where constituent weights are based on the market value of outstanding debt issuance, constituent weights are determined based on the time from inclusion in the index. Any bond entering the index is given a predefined time score and, starting from the 13th month upon entering the index, that score is gradually reduced. On each monthly rebalance, the time scores for all bonds in the index are normalized to weights that sum up to 100%.

HYFA has a TER of 0.45% and currently houses AUM of $68m. The fund trades in dollars, pounds sterling and euros, with listings across Europe.

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