This ETF Offers a Different Way to Play Interest Rate Changes

The little-known PIMCO 25+ Year Zero Coupon U.S. Treasury Index Fund ETF (NYSE:ZROZ) may not be on many investors’ radars yet, but that could change soon, given today’s interest rate environment.

There has been some position trimming lately in the $202 million ZROZ (Expense Ratio 0.15%), with a noticeable $165 million leaving the fund via redemptions.

ZROZ has rallied considerably, however, to present levels from where it was back in say late-May or early June of this year. That’s not unexpected, however, considering the product consists of zero-coupon Treasury STRIPS, in the current interest rate environment. So some profit taking into this move really isn’t out of the ordinary.

Specifically, ZROZ tracks the “BofA Merrill Lynch Long U.S. Treasury Principal STRIPS Index,” and according to fund literature, has an “Estimated Yield to Maturity” of 2.29% and a “SEC 30-Day Yield” of 2.19% presently. When we delve through fund literature further in order to understand the appeal of a “Zeroes” based ETF product to investors we see the following:

“Potential benefits of this fund include:

  1. High level of sensitivity to changes in yields, without the use of leverage,
  2. Efficient deployment of capital by maximizing duration per dollar invested,
  3. A liquid basket that includes only Principal STRIPS, which may trade more easily than Coupon STRIPS, potentially reducing bid-ask spreads and premium/discount to NAV,
  4. Quarterly index and portfolio rebalancing schedule matched to quarterly dividend payments, which may reduce trading expenses, and
  5. Ability to sell short for those who believe rates will rise.”

The most interesting segments of the “potential benefits” that PIMCO lays out here we believe lie in #1. Sensitivity to changes in yields will likely have broad appeal to many whom are looking to play interest rates without the use of leverage in bond ETFs that they are trading.

Given the nature of zeroes, conceptually this makes plenty of sense, especially in such a rate environment as we have today. Additionally, #5 is likely an understated benefit as well, as those potentially looking to play a scenario of rising rates, ZROZ could effectively be shorted as a bond portfolio position.

The fund averages about 90,000 shares per day and likely should trade even heavier daily volume soon, given the interest in positioning in the current rate environment that we see out there among ETF portfolio managers and investors.

ZROZ-2016-09-07

ZROZ shares rose $0.35 (+0.25%) to $139.04 in afternoon trading today. ZROZ has surged 27% year-to-date, easily beating the performance of more traditional bond funds like the TLT.

Disclaimer: The content of this article is excerpted from a daily newsletter from Street One Financial. While ETF Daily News may edit the contents and add a relevant title to the piece, the author, Paul Weisbruch, does not endorse or recommend any issuer or security mentioned herein.

About the Author: Paul Weisbruch
paul-weisbruchPaul Weisbruch is the VP of ETF/Options Sales and Trading at Street One Financial. Prior to joining the team at Street One, Paul served as the Director of RIA and Institutional ETF Sales at RevenueShares ETFs from December 2007 until November of 2009. Before RevenueShares, Paul was employed by Susquehanna International Group from 2000 until 2007 serving in roles including OTC/NYSE Institutional Block Trading, Nasdaq/OTC Market Making, ETF/Derivatives Intelligence and Strategy, Algorithmic Trading, as well as acting as the PHLX Floor Specialist in the ETFs, SPY and DIA.

Paul has been actively involved in the ETF space from both a product and trading standpoint since 2000. Additionally, Paul has well forged relationships with national RIAs, institutional pension fund managers and consultants, mutual fund and hedge fund managers, and also the ETF media. Co-authoring the “S1F ETF Daily” since 2009, the daily piece has become a must for many portfolio managers in the ETF space, with segments regularly appearing in the likes of Barron’s, WSJ, and ETFTrends.com for instance.

He holds his Series 4 (Registered Options Principal), 6, 7, 55 (Equity Trader), 63, and 65 licenses. He graduated from the University of Pittsburgh (B.S. – Economics), graduating magna cum laude, and has an MBA from Villanova University.