💧The FLOT Advantage: Your Portfolio's Interest Rate Shield

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As interest rates fluctuate in response to economic changes, finding investments that can perform well in different rate environments has become increasingly important. Whether you’re looking to invest excess cash, manage interest rate risk, or diversify your fixed-income portfolio, today’s focus is on the iShares Floating Rate Bond ETF $FLOT ( ▲ 0.24% ) , which presents a compelling option worth considering. This detailed analysis will explore what makes this ETF appealing, how it fits into broader investment strategies, its historical performance, and the key factors for potential investors to consider.

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What is FLOT?

FLOT is an ETF managed by iShares (BlackRock), one of the world's largest asset managers. Launched in June 2011, it has established itself as a significant player in the floating-rate bond ETF space. Depending on market conditions, its assets under management typically range between $7 and 10 billion.

FLOT seeks to track the Bloomberg U.S. Floating Rate Note < 5 Years Index, which consists of over 300 U.S. dollar-denominated, investment-grade floating rate bonds with less than five years remaining. Focusing on shorter-term securities is key to the fund's approach to managing interest rate risk.

Unlike fixed-rate bonds, which offer a predetermined interest rate for their entire duration, floating-rate bonds feature interest payments that adjust periodically based on a reference rate. These adjustments usually occur every 30, 60, or 90 days, and the coupon rate is typically calculated as the reference rate plus a fixed spread.

This floating rate mechanism provides a significant advantage: when interest rates rise, the interest payments from floating-rate bonds increase accordingly, helping to maintain the bond's market value. In contrast, traditional fixed-rate bonds often decrease in price when interest rates rise because their fixed payments become less appealing compared to newer bonds issued at higher rates.

FLOT provides investment-grade quality, short-duration monthly income, excellent liquidity, and a competitive 0.15% expense ratio, making it an efficient way to manage interest rate risk while maintaining quality.

Investment Strategy📊

To integrate FLOT into your investment strategy, evaluate your financial goals, risk tolerance, and current allocations. Here are some effective methods to consider:

• 🪨Core Fixed-Income Holding: FLOT can serve as a core fixed-income holding for investors concerned about interest rate risk, especially when interest rates rise. By allocating a significant portion of your bond exposure to floating-rate securities, you may reduce the interest rate sensitivity of your overall portfolio.

• 〰️Tactical Allocation: Many investors use FLOT tactically, increasing their allocation during anticipated rate increases and reducing it when rates remain stable or decline. This approach requires a view of interest rate directions but can enhance returns if timed correctly.

• 🏋🏼Part of a Barbell Strategy: A barbell strategy involves concentrating bond investments at opposite ends of the short-term and long-term duration while minimising exposure to intermediate durations. In this approach, FLOT can serve as the short-duration component, paired with longer-duration bonds that offer higher yields but greater interest rate risk.

• 💵Cash Alternative: For your portfolio's near-term needs or emergency funds, FLOT balances the safety and low yield of cash and the higher risks of long-term investments. This option is particularly appealing in high-interest rate environments, where the yield difference becomes significant.

FLOT at a glance

ETF Issuer: iShares

Inception: 2011-06-14

Asset Class: Fixed-Income

Underlying Index: Bloomberg U.S. Floating Rate Note < 5 Years Index (USD)

Geographical Focus: Global (but all USD bonds)

Expense Ratio: 0.15% (as of last data point)

Dividend Yield: 5.59% (as of last data point)

Distribution Frequency: Monthly

Historical Performance

FLOT's performance has, as expected, been closely tied to the prevailing interest rate environment:

• Low-Rate Period (2011-2015): In the low-interest-rate environment after the 2008 financial crisis, FLOT yielded modest annual returns of 0.5% to 1%, slightly outperforming many money market funds while maintaining similar stability.

• Gradual Rate Increases (2016-2019): As the Federal Reserve gradually raised rates, FLOT's performance improved correspondingly. During this period, the ETF delivered returns in the 1.5-2.5% range, outperforming many traditional bond funds that faced headwinds from rising rates.

• COVID-19 Crisis (2020): In March 2020, FLOT experienced a brief decline due to credit concerns and liquidity issues affecting fixed-income sectors. However, its drop was modest compared to other bonds. It swiftly recovered as markets stabilised and the Federal Reserve implemented supportive measures.

• Post-COVID Rate Environment (2021-2024): As inflation and interest rates rose from near-zero levels, FLOT's floating rate structure became valuable. Its yields increased with benchmark rates, enabling it to outperform many fixed-rate bonds during this challenging time for traditional fixed income.

ETF Radar View

The radar chart below shows the general characteristics of the ETF:

Top 3 Reasons to Invest

1. Enhanced Yield Over Cash Equivalents: FLOT offers a yield advantage while maintaining a similar risk profile to money market funds and cash equivalents, especially when interest rates are higher. This makes it an attractive option for investors wanting to earn returns that keep pace with inflation, with minimal risk and little capital volatility.

2. Portfolio Diversification Benefits: Adding FLOT to a diversified portfolio can improve the overall risk-return profile by introducing an asset class with low correlation to both traditional fixed-rate bonds and equities. This diversification effect can be particularly valuable during market stress periods when correlations between asset classes often increase.

3. Investment-Grade Credit Quality: Unlike some floating rate products that focus on high yield issuers, FLOT maintains an investment-grade credit profile. This higher credit quality helps reduce default risk while still capturing the benefits of floating rate structures.

Top 3 Reasons Not to Invest

1. Yield Limitations in Low-Rate Environments: FLOT's floating rate structure becomes a limitation when interest rates are low or declining. During periods of monetary easing or economic weakness when central banks reduce benchmark rates, the yields on floating rate securities adjust downward accordingly.

2. Credit Risk During Economic Downturns: Despite its investment-grade focus, FLOT still carries credit risk that can manifest during economic recessions or financial crises. As seen briefly during March 2020, concerns about corporate defaults can lead to price declines and spread widening even for investment-grade issuers.

3. Sector Concentration Risk: FLOT's portfolio typically has significant exposure to the financial sector, reflecting the composition of the floating rate bond market, which is dominated by bank issuers.

⚓Anchoring Your Portfolio with FLOT

FLOT represents a specialised tool that addresses specific needs within an investment portfolio. Its primary strengths lie in managing interest rate risk, enhancing cash positions, and providing portfolio diversification with minimal volatility.

As with any investment decision, the role FLOT should play in your portfolio depends on your individual financial situation, investment goals, risk tolerance, and market outlook.

Thank you for being a valued member of the ETF UNO community. We encourage you to continue engaging with our community for further insights into other ETF opportunities. We look forward to continuing our journey of building smarter ETF portfolios together.

Until next time—happy investing!

DISCLAIMER: This article is for informational purposes only and should not be considered as investment advice. Always conduct your own research and consult with a financial advisor before making investment decisions.