iShares Core Canadian Corporate Bond Index ETF XCB provides broad exposure to investment-grade Canadian corporate bonds. The fund has slashed its fee in recent years, improving its competitive advantage.
The fund tracks the FTSE Canada All Corporate Bond Index, which includes investment-grade, CAD-denominated corporate bonds with at least one year remaining until maturity. Qualifying issues must have at least a C$100 million issuance size. The index also excludes certain types of bonds, including convertibles and mortgage-backed securities. It weights selected bonds by their market value, which tilts it toward the most indebted issuers.
The investment-grade corporate bond market in Canada is characterized by a heavy concentration in the financials sector, especially the five biggest banks. Investors should be aware of these firm-specific risks before taking the plunge. The fund tends to invest around 40% of its assets in financial issuers, with about 25% in the five largest Canadian banks. These institutions are classified as domestic systemically important banks, and they tend to carry credit ratings between AA and A.
More than 20% of the fund’s assets are currently allocated to bail-in debt from financial institutions, with most coming from the largest five banks. These securities will be converted to equity if Canadian regulators deems the issuer no longer viable. A nonviability scenario will unlikely be a surprise, as capital requirements are very robust in Canada. The Canadian banking sector has historically displayed its strength, which translates to credit ratings between AA and A for these securities. Issuance activities have picked up for these securities in the past few years as part of a larger regulatory effort to strengthen Canadian banks’ balance sheets.
Compared with its average category peer, the fund’s credit risk profile looks slightly more conservative. Active funds in the category have the flexibility to pick up BB-rated bonds for extra yield. Nonetheless, the fund’s average yield to maturity has been in line with the category average. The fund has a slightly longer effective duration than the average peers, as it allocates more to the long end of the curve.
While the fund’s straightforward approach might lag more nimble peers when risky assets are in favor, its broad portfolio does a good job of capturing the full investment opportunity set and allowing it to keep up with its category. The fund often outperforms in credit shocks, offering better protection than the category average. These features, combined with a low annual fee, make the fund a compelling option.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
