ETF Analysis - iShares Convertible Bond ETF (ICVT)

TLDR

 

1. The Fund invests in convertible bonds of about 200 US companies.

2. Dividend is not bad, at 2.2% per annum, and maintenance fees are low and about 0.2%.

3. Due to the nature of the convertible bonds, the Fund is exposed to various risks (especially credit risk).

Summary

This fund is a fund that invests in corporate convertible bonds. When stock price rises, the Fund will benefit from stock prices. When stock prices fall, the Fund will concentrate on investing convertible bonds that so that the Fund receives interest on bonds. Generally, since the event price is higher than the current price, when the stock price rises, it will earn slightly less than the rise in stock price and since the interest rate is low, when stock price falls, the Fund will earn less than the bond yield. However, since it is safer than stocks and may have higher expected returns than bonds, good corporate convertible bonds (good companies do not issue convertible bonds well) provide good investment opportunities.

The Fund has about 214 assets, of which the following are the largest assets.

Convertible bonds, however, can yield the best returns when stocks rise and interest rates are low. If stocks go down and interest rates go up, the losses on the bond becomes quite large. Therefore, I am not sure whether it is appropriate to hold a lot of convertible bonds at this time. Stocks are still rising and bond rate hikes is not as fast yet but….

The prospects are not so bright, but when I think about the ups and downs of the stock market, the Fund is for you put your money and chill for a while. Unlike the anticipation, if the stock price rises, there is nothing bad and even though there is a loss, if it is not the level of historical financial crisis, money can be recovered. However, if a major financial crisis happens again, you will get nothing from the Fund.

The dividend is about 2.2% over the past one year. The interest portion is not really a loss. Management fees are quite low with 0.2%. Why? Because this is an index fund. Since it is a fund that follows the Bloomberg Barclays US Convertible Cash Pay Bond> $ 250MM Index, it will buy and hold convertible bonds or securities that make up the index. The tracking error seems not to be large.

Risks

1. Liquidity risk

The NAV is about 270 million dollars (280 billion KRW), and the average daily transaction amount is about 0.7~0.8 million dollars (700-800 million KRW). Therefore, I cannot say that the liquidity is very good, and it is a product to invest with mid to long term perspective.

2. Credit Risk

Although there are 200 assets in the portfolio, all of the convertible bonds are the bonds issued by the companies with credit. Therefore, there is a credit risk for all of these companies. In addition, companies with strong financial structures generally do not issue convertible bonds, so even if the companies with the convertible bonds looks good, they should not be considered as if they have the best credit.

Tesla's convertible bonds are also included in the above assets. In the case of Tesla, the credit rating is already at B3 by Moody's and is a speculative grade already. If the company reaches 6 levels up from B3, it will be the lowest credit rating among investment grade.

As you can see in the picture above, NR (Not Rated) cases are over half of the total, and the middle rating is BB. Investment Grade starts from BBB, so investment grade bonds among the assets of the Fund are about 16.8% of the total. However, the NR does not necessarily mean that the company is sketchy, and there are quite a few cases where it is just not rated.

However, on average, maybe the credit ratings of the NR companies are roughly the same as the credit rating distribution of companies excluding NR?

Assuming yes, investment grade bonds account for 33%, and the rest is so-called junk bonds. The yield may be good, but not so secure. Tesla is between CCC and B. Maybe funding is really bad at the moment. The average maturity of the Fund is about 5.6 years, and the modified duration is 1.56. If interest rate goes up by 1%, you can think that the bond portion of the entire portfolio will lose about 1.56%. Normally, if the average maturity is 5.6 years, the modified duration is about 5 ~ 6, 1.56 is quite low.

A considerable number of bonds are likely to be variable interest bonds. It is not bad when interest rate rises.

The fund has a high concentration in the bond universe sector and 44% of total assets are tech. companies. Let's look at the picture below.

In this case, if the technology industry suddenly falls, you may experience a serious loss of funds. This seems to have no other way to avoid and this would be the highest risk.

3. Market Risk

It is the convertible bond that all the parameters of the market, including the stock market, the credit spread, the bond yield curve, and even the stock market volatility are considered. Therefore, it is not advisable to simply exercise when stocks rise, move on to bonds if stocks fall. So it is better to make an indirect investment with the fund.

The convertible bond is divided into a bond portion and a share option portion. This is basically tying stocks as much as the lowered yields on bonds. This has an effect of reducing the financial burden by reducing the fixed interest, and deferring the financial burden by giving the stock (normally raised) when the business is normalized. Well, that is for the best case. Therefore, stock volatility should also be considered.

Conclusion

Convertible bonds are said to be in the middle of stocks and bonds, but they are actually stocks and bonds. So, both the risks in stocks are intact and the risks in bonds are also intact. So you can think of it as giving the right of conversion. It is a typical product that you think is safe because you cannot see the risk. However, In fact, hidden risk is bigger than you usually think.

However, if you distribute it to an ETF, you can pursue a more stable return by diluting various special situations or events that occur in a single bond. In Korea, it is a pity that ETF of this kind cannot come out due to problems such as sourcing. This fund is not bad if you expect mid-level return. In addition, if the domestic (Korean) credit rating A is equivalent to an overseas rating, BB, so it can be said to have low-level risk with mid-level return from Korean perspective.

Closing

The following is a stock / index ticker for your reference.

CUSIP 46435G102 CUSIP 46435G102

Bloomberg Index Ticker: BCT5TRUU Bloomberg Index Ticker: BCT5TRUU