First Asset’s new Canadian provincial bond ETF delivers low risk yield pick-up

Jan 23rd, 2013 | By | Category: Fixed Income

The yield on Canadian 10-year federal government bonds has remained stubbornly below 2% for much of the past year. It’s no surprise that investors are looking to pick up yield from alternative sources.

First Asset’s new Canadian provincial bond ETF delivers low risk yield pick-up

First Asset’s latest ETF provides exposure to higher-yielding but low-risk Canadian provincial government bonds.

While higher yield typically comes with higher risk, First Asset, a Toronto-based exchange-traded fund (ETF) provider, believes that Canadian provincial bonds offer an attractive risk-adjusted return profile, given their current spread over federal government bonds.

It is this yield spread – about 1% over equivalent duration government bonds – that has inspired First Asset to launch a new ETF dedicated to the sector.

Listed on the Toronto Stock Exchange (TSX), the newly launched First Asset DEX Provincial Bond Index ETF (PXF) tracks the DEX Universe Provincial Bond Index and has been designed precisely to enable investors to access this yield premium.

Commenting on the launch, Barry Gordon, President and CEO of First Asset ETFs, said: “The DEX Universe Provincial Bond Index is a proven index with an impressive track record of strong consistent performance and delivers a higher yield compared to the Canadian government bond universe.”

He added: “Our ETF replicates this government bond index, and offers investors access to attractive investment grade provincial government bond yields and potential growth, on an efficient low cost basis.”

The fund’s benchmark, the DEX Universe Provincial Bond Index, is the foremost index measuring the performance of Canadian provincial government bonds (an alternative is the Thomson Reuters Canadian Provincial All Bond Index). The index consists of semi-annual pay fixed rate provincial government bonds denominated in Canadian dollars, with an effective term to maturity of at least one year, a credit rating of BBB or higher and a minimum size requirement of $50 million per issue.

The provincial sector consists of bonds issued by Canadian provinces and provincial or territorial corporations, incorporated under their respective jurisdiction. Each constituent security in the index is weighted by its relative market capitalisation and rebalanced on a daily basis to include new issues, and remove issues when their effective term to maturity declines to one calendar year.

Bonds issued by the provincial governments of Ontario and Quebec form the bulk of the fund with weights of 58.7% and 27.3% respectively. The remaining 14% is split fairly evenly between British Columbia, New Brunswick and Manitoba.

While the minimum credit rating of the benchmark index is BBB, none of the constituents is currently rated below A; indeed almost two-thirds of the bonds in the index are rated AA, just one notch below the federal government’s AAA rating. According to Standard & Poor’s, the rating agency, AA-rated bond issuers have a “very strong capacity to meet financial commitments”, meaning investors can rest easy in the knowledge that the 1% yield pick-up does not come with too much added risk.

The fund has a weighted average yield to maturity of 2.8% and a duration of 9.3. It commands an annual management fee 0.25%.

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