Balance Longer Duration With EVSD While Capturing Income

nvestors and markets appear enormously optimistic regarding the potential for an interest rate cut this September. As bond investors move further out in duration, there is value in maintaining or adding short duration alongside these exposures. Investors should consider the recently converted Eaton Vance Short Duration Income ETF (EVSD) when looking for income within a diversified fixed income portfolio.

Markets currently forecast, with overwhelming confidence, an interest rate cut this September. The CME FedWatch Tool sits at a 93.3% prediction for a one-quarter rate cut at the September Fed meeting. The remainder 6.7% price in two rate cuts in September. This measurement comes from how fed funds futures contracts currently trade on the CME.

Hopes of a soft landing this fall and the likelihood of a rate cut resulted in an increasing number of investors moving further out of the yield curve. Alongside increased fund flows to intermediate- and long-duration ETFs, investors also added high yield according to etfdb.com flows data.

Morgan Stanley advises caution amidst the fixed income enthusiasm, however.

Image source: Morgan Stanley

“While YTD increases in yields have offered an opportunity to add some duration exposure to portfolios, we still see risks to owning high duration in fixed income exposures.” That analysis appeared in their most recent July blog, The Beat. “Bond duration risks face a potentially slow and shallow Fed rate cut cycle.”

The firm currently recommends a neutral position within bonds, given ongoing risks. Those investors seeking income opportunities while balancing long-duration additions would do well to consider the Eaton Vance Short Duration Income ETF (EVSD).

Short-duration funds offer low interest rate risk and have proved extremely popular with investors in the last two years. These funds also offer greater flexibility in a changing macro environment than their peers further along the yield curve. They hold appeal for the diversification benefits they bring to a bond portfolio as well as a differentiated risk profile.

EVSD is a conversion of an existing short-duration bond mutual fund and seeks to generate above-average returns over three to five years. The fund is actively managed and invests largely in U.S. government securities, corporate bonds, and mortgages as well as asset-backed securities. EVSD also invests up to a quarter of its assets in below-investment-grade, high-yield bonds.

The benchmark for the fund is the Bloomberg 1-5 Year US Credit Index and the strategy seeks to maintain a duration of three years or less. EVSD’s managers consider the yield curve, credit spreads, and real interest rates when investing. They utilize top-down macro and thematic analysis as well as bottom-up sector analysis for security selection.

EVSD benefits from the knowledge of an array of specialized sector research teams to create the multi-sector approach. The fund managers also include risk management when investing. EVSD offered a distribution yield of 4.34% as of 06/30/24 and carries an expense ratio of 0.24%.