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Fitch: ETFs Gain Bond Clout

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How much of an impact are ETFs having on the bond market? A whole lot, according to a report from Fitch Ratings.

The report, titled “Bond ETFs: Rising Influence on High-Yield Markets,” says that “ETFs are playing a more significant role in U.S. fixed income markets, particularly the corporate high yield segment.”

Although U.S.corporate bond ETF assets total less than 2% of the U.S.corporate bond market, their influence on trading activity is relatively more significant. Average daily trading volumes (on a weekly basis) for the five largest high-yield corporate bond ETFs more than tripled from about $470 million in early May to more than $1.5 billion in early June.

The top U.S. listed high yield bond ETFs by assets are the iShares iBoxx $ High Yield Corporate Bond (HYG) ($14.34b), SPDR Barclays High Yield Bond (JNK) ($8.92b) and the PowerShares Senior Loan Portfolio (BKLN) ($5.31b).

Increasing share volume means that investors are shifting assets to and from high yield bond ETFs.

Fitch also notes that increased ETF trading volumes could potentially magnify aggregate bond market volatility. This occurs when ETF redemptions force the selling in the underlying bonds.

Research from the Federal Reserve Bank of New York suggests that an investor or dealer liquidation of more than $250 million in corporate bonds on a single day could negatively impact corporate bond prices.

The growing prominence of ETFs within U.S.fixed income markets, particularly corporates, has occurred with reductions in dealer inventories of corporate bonds. “This coincides with new U.S. and global financial regulations that have or will increase capital and liquidity requirements on bank trading activities,” says Fitch.