PGIM Investments has launched a new actively managed fixed income ETF that seeks to maximize current income by investing in floating-rate securities.

The ETF is sub-advised by PGIM Fixed Income which manages some $38bn in floating-rate loan assets globally.

The PGIM Floating Rate Income ETF (PFRL US) has been listed on NYSE Arca, coming to market with $25 million in assets.

The fund is managed by PGIM Fixed Income, one of the world’s largest leveraged finance managers with $38 billion in floating-rate loan assets (as of the end of Q1 2022).

The ETF replicates the strategy of the $4.6bn PGIM Floating Rate Income Fund which ranks in Morningstar’s top decile for total returns over the prior three, five, and ten-year performance periods.

Both funds are overseen by Brian Juliano, Head of US Bank Loans and co-Head of US CLOs; Robert Cignarella, Head of US High Yield; and Robert Meyer, Vice President of US Bank Loans; alongside portfolio managers Parag Pandya and Ian Johnston.

Floating rate loans offer coupons that adjust to reflect changes in interest rates. Compared to traditional bonds which pay fixed coupons, this feature makes floating-rate securities far less susceptible to losing value when interest rates increase.

Investors are increasingly seeking to take a defensive stance on interest rates as the Federal Reserve embarks on what is expected to be an aggressive series of rate hikes. The Fed raised the federal funds rate by a half-point increment to a range of 0.75% – 1.00% at the beginning of May; however, current market pricing has the rate rising to 2.75%-3.00% as soon as the beginning of next year.

According to research from PGIM Investments, floating-rate loans have historically outperformed the broader US bond market in the 18 months directly following the start of the four previous Fed rate hike cycles. The Credit Suisse Leveraged Loan Index returned an average of 10.2% over these periods compared to 8.9% for the Bloomberg US Corporate High Yield Index and 6.9% for the Bloomberg US Aggregate Bond Index.

While these performance figures highlight the relative opportunity in floating-rate securities during periods of monetary tightening, PGIM’s Brian Juliano maintains that current market conditions necessitate an active management approach to the sector.

Juliano said: “Despite strong fundamentals, uncertainty around developments in Ukraine, inflation, and central bank hawkishness underscore the importance of both credit selection and risk management. Mechanically, the coupons that bank loans pay reset on short-term interest rate movements which may help to mitigate the impact of rising interest rates. This structure, when paired with active management and a well-researched credit selection process, seeks to provide investors with an opportunity to be rewarded as market volatility continues.”

The ETF is unconstrained as to the maturity and credit quality characteristics of the floating rate securities in which it invests. Up to 20% of the fund’s assets may be allocated to uncollateralized senior loans, while a maximum of 25% of the fund’s assets may be invested in non-US issuers including those domiciled in emerging markets.

PGIM utilizes a combination of top-down economic analysis and bottom-up research in conjunction with proprietary quantitative models and risk management systems when building the ETF’s portfolio.

The ETF comes with an expense ratio of 0.72% which is relatively high for a floating-rate ETF, reflecting the fund’s active management approach.

The largest passively managed ETFs in this space include the $9.8bn iShares Floating Rate Bond ETF (FLOT US) and $3.4bn SPDR Bloomberg Barclays Investment Grade Floating Rate ETF (FLRN US), both of which have expense ratios of 0.15%.