Second bank-loan ETF on the runway amid hunt for yield

Pyxis hopes to gain from debt demand, prices fund lower than PowerShares

By Jason Kephart

Oct 29, 2012 @ 1:51 pm (Updated 3:27 pm) EST

ETF, high-yield debt

Pyxis Capital LP is preparing to bring the second bank loan exchange-traded fund to market this week as demand for the high-yielding debt is starting to heat up.

The Pyxis/iBoxx Liquid Loan ETF ticker:(SNLN) will track the Markit iBoxx USD Leveraged Loan Index, which comprises the 100 most liquid bank loans. It will charge 47 basis points, which undercuts the only other bank loan ETF – the PowerShares Senior Loan Portfolio ticker:(BKLN) – by almost 21 basis points.

The PowerShares bank loan ETF was launched in March 2011 and has an expense ratio of 76 basis points. Assets have more than doubled to $1.3 billion since July as investors increasingly have been attracted to the high yield and zero-interest-rate sensitivity bank loans offer.

Bank loans are senior secured debt that financial institutions loan to below-investment-grade companies that aren't able to issue bonds. Interest rate payments are set at a fixed rate above a benchmark, most commonly the London Interbank Offered Rate, and as the benchmark rises, so too do the loans' interest rates.

Because the loans are issued to below-investment-grade companies, the fixed rate is relatively high in today's zero-interest-rate world. The PowerShares ETF has a yield of 5%, for example.

A number of fixed-income managers have started to favor bank loans because of the high yield and the fact that there hasn't been nearly as much demand for them as other high-yielding fixed-income choices.

High-yield bonds, for example, had $37 billion in inflows year-to-date through the end of September, more than the previous two years combined, according to Lipper Inc.

Bank loans, on the other hand, had just over $5 billion, with $3 billion of that coming in August and September alone.

Even though the yield and the price may be attractive, bank loans aren't without risk. The Financial Industry Regulatory Authority Inc. issued an investor warning on the loans in July.

“Funds that invest in floating-rate loans may be marketed as products that are less vulnerable to interest rate fluctuations and offer inflation protection, when in fact the underlying loans held in the fund are subject to significant credit, valuation and liquidity risk,” it warned.

In 2008, the average bank loan mutual fund fell 30%, which was worse than the performance of high-yield-bond funds, which fell 26%, according to Morningstar Inc.