Options investing specialist Cboe Vest Financial has launched a new ETF that is designed to offer investors protection from rising long-term interest rates.

The Federal Open Market Committee has indicated that US interest rates could peak at 4.9% in 2023.

The Cboe Vest 10 Year Interest Rate Hedge ETF (RYSE US) has been listed on Cboe BZX Exchange with an expense ratio of 0.85%.

Central banks lifted interest rates rapidly in 2022 as they sought to curtail inflation that was running at its highest levels in decades.

Most recently, the Federal Reserve increased the federal funds rate by 0.50 percentage points in December, bringing the key rate to 4.25%-4.50%.

The move was, however, less drastic than the previous four meetings when the Fed hiked rates by 0.75 percentage points, and current guidance from the Federal Open Market Committee (FOMC) indicates that interest rates may peak at around 4.9% in 2023.

As of 26 January, the yield on ten-year US Treasuries was 3.49% with this figure still some way below the long-term average of 4.26%.

Investment approach

RYSE has been designed to be used by investors as a direct hedging tool against further increases in the ten-year US Treasury yield.

To achieve its investment objective, the actively managed fund utilizes an advanced options portfolio consisting of futures and options on US Treasuries or interest rates, as well as interest rate swaps and swaptions.

Additionally, the ETF takes a long position in a receiver interest rate swaption (whereby the fund receives a fixed rate and pays the prevailing ten-year US Treasury yield) which is designed to hedge the ETF’s potential losses resulting from a decrease in the ten-year US Treasury yield. This buffer is designed to limit the ETF’s total losses to approximately 15% over a calendar quarter starting from the outset of the swaption contract.

To offset the cost associated with purchasing the receiver swaption, the ETF will write (sell) a payer interest rate swaption which has the effect of limiting the potential upside from increases in the ten-year US Treasury yield over the same period. The cap on the ETF’s upside potential will be dependent on market conditions at the outset of the swaption contract but is expected to range between 15% and 35% over the calendar quarter.

Investors seeking to protect against rising long-term interest rates may also wish to consider an ETF from Simplify Asset Management. Launched in May 2021, the Simplify Interest Rate Hedge ETF (PFIX US) provides protection against a sharp increase in the 20-year US Treasury yield by purchasing a payer swaption. The fund has an expense ratio of 0.50%.