From the July 2012 issue of Research Magazine • Subscribe!

June 27, 2012

Targeting Covered Bonds

The ProShares USD Covered Bond (COBO) made its trading debut in late May. COBO is linked to the BNP Paribas Diversified USD Covered Bond Index, which follows the performance of a portfolio of AAA-rated covered bonds. These bonds are denominated in U.S. dollars.

Covered bonds are debt instruments issued by a financial institution that are secured by a segregated pool of financial assets or “cover pool” which typically consist of mortgages or public-sector loans.

“Many investors are interested in high credit quality bonds, but the supply of AAA-rated corporate debt in the U.S. is very limited,” said Michael L. Sapir, chairman and CEO of ProShare Advisors LLC, ProShares’ investment advisor.

The first covered bond was created in 1769 in Prussia by Frederick the Great in the aftermath of the Seven Years’ War. The rules governing the covered bond market were established in 1900, under Germany’s Mortgage Bank Act. Today, the global covered bond market is estimated to be approximately $3 trillion outstanding.

COBO is a short-term bond fund and bonds held by the fund mature in 3.31 years. The average yield to maturity for the fund is 1.48%, which is in the same range as U.S. Treasuries with 3-7 year durations (IEI).

Covered bonds differ from other debt instruments, including asset-backed securities, in that bondholders have a senior, unsecured claim against the issuing financial institution, which is secured by the cover pool in the event of default by the issuer.

COBO’s underlying index is comprised of covered bonds issued exclusively by non-U.S. institutions and each bond must be AAA-rated by at least one independent rating agency. The index is rebalanced on the last business day of January, April, July and October.

As of May 23, the prospectus date, the index consists of 43 covered bonds issued by 20 different financial institutions. These issuers are primarily Canadian and European, with the dollars weighted as follows: Canada (59%), Norway (11.6%), France (6.3%), Sweden (4.9%), England (3.2%), Australia (6%) and Switzerland (9%).

After calculating temporary fee waivers of 0.43% that last until Sept. 30, 2013, the net expense ratio for COBO is 0.35%.

Reprints Discuss this story
This is where the comments go.