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  The Return of Volatility and the Case for Earnings Quality
Posted Under: ETFs
A Snapshot of Q3 Flows and Trends

Despite healthy net inflows totaling $44.8 billion in Q3, in line with $45 billion of net inflows in Q2, US-listed exchange-traded fund (ETF) assets declined by $132 billion for the quarter, to $1.99 trillion.¹ This quarter-over-quarter decline—the first since Q2 of 2013—was caused primarily by a correction in global equities.  Nonetheless, domestic equity was the strongest category for the quarter, bringing in $22.8 billion in net inflows, marking the first quarter of positive net flows for the category in 2015.  The taxable bond category followed close behind with roughly $22 billion in net inflows, compared to less than $1 billion of net inflows for the previous quarter.  The alternative category also had a significant increase in net inflows at $4 billion, the majority of which came from leveraged long and inverse ETFs.  The largest reversal in Q3 came from the international equity category, which suffered $1.3 billion in net outflows, after leading all categories for net inflows for the previous quarter with $46.5 billion.  Sector equity ETFs also reversed course, with $2.6 billion in net outflows, compared to $2.4 billion of net inflows for the previous quarter.

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¹Morningstar Direct. Includes all US-listed exchange-traded funds, exchange-traded notes and other exchange-traded products. 
Posted on Wednesday, November 18, 2015 @ 8:18 AM • Post Link Share: 
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  Municipal Quarterly Update – 3rd Quarter 2015
Posted Under: Municipal
3rd Quarter 2015 Municipal Market Performance and Highlights
  • The Barclays Municipal Bond Index returned 1.65% for the three months ended September 30, 2015, bringing the year-to-date total return for the
  • index to 1.77%.
  • Municipal bond yields followed U.S. Treasuries lower, as global economic weakness, volatile equity markets, and the Federal Reserve's ("Fed")
  • September decision to postpone tightening drove a flight-to-quality rates rally. The 10- and 30-year U.S. Treasury rates fell 29 basis points (bps) and
  • 24 bps, respectively, to 2.06% and 2.87%.
  • New issue supply was lighter due to seasonal softness and declining refinancing volume as yields remained elevated into August versus those at the
  • start of the year. For the first nine months of the year, municipal bond issuance totaled $312.5 billion to outpace 2014 issuance during the same period
  • by 34.6%, well below the 44.9% year-over-year pace set during the first half of 2015. (Source: Barclays, SIFMA)
  • Net mutual fund flows remained modestly negative for a fifth consecutive month compressing total net inflows year-to-date through September 23,
  • 2015 to $4.5 billion from $6.8 billion at the end of June 2015. (Source: Barclays, Investment Company Institute)
  • Credit fundamentals remained healthy as first time defaults continued to trend lower and state and local government tax revenues surged higher.
Click here for the full report.
Posted on Friday, November 06, 2015 @ 8:01 AM • Post Link Share: 
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  Third Quater 2015 CEF Review
Posted Under: CEFs

After the second quarter, where the average closed-end fund (CEF) was lower by 3.70% on a share price total return basis, the third quarter was another difficult quarter, with the average CEF lower by 6.28% on a share price total return basis, according to Morningstar. Weakness in the global equity markets impacted equity CEFs with the average equity CEF lower by 15.14% on a share price total return basis. It is clear that an aversion to taking credit risk during the quarter negatively impacted many taxable fixed-income CEFs, with the average taxable fixed-income CEF lower by 4.60% on a share price total return basis. Municipal CEFs were a bright spot during the third quarter, with the average municipal CEF higher by 3.29% on a share price total return basis (Morningstar).

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Posted on Wednesday, October 28, 2015 @ 7:53 AM • Post Link Share: 
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  Senior Loan & High Yield Review
Posted Under: Senior Loan
Senior loan and high-yield bond returns were negative in the third quarter after posting a strong first half. With equities leading the way lower at -6.44% for the S&P 500 Index in the third quarter, high-yield bonds fell -4.88%, making this the most challenging quarter for high-yield bonds since the third quarter of 2011. Senior loans were down a much more modest -1.35% in the quarter.

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Posted on Thursday, October 22, 2015 @ 3:43 PM • Post Link Share: 
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  Diversify Your Short Duration Income Portfolio
Posted Under: ETFs

As financial advisors prepare for the Federal Reserve (the "Fed") to begin raising interest rates for the first time since 2006, it may be a prudent time to consider shortening the duration of their clients' fixed-income portfolios.1 Considering the relatively low yields offered by long-term bonds, an interest rate increase of 1 or 2 percentage points could result in a price decline equivalent to multiple years of income. For example, as of 8/31/15, the yield-to- maturity for the Barclays US Aggregate Bond Index was 2.4%, with a modified duration of 5.6 years.2 This implies that for every 1% increase in interest rates, the price of the index could decline by roughly 5.6%.

The difficulty with shortening duration, however, is that short-term yields for investment grade bonds are currently too low to meet the income needs of many investors. As a result, financial advisors must determine whether lessening interest rate risk while accepting more credit risk is a worthwhile tradeoff, in order to attain a more desirable level of income. For example, while the First Trust Senior Loan Fund (FTSL) bears more credit risk than the Barclays US Aggregate Bond Index by investing in a portfolio of below-investment grade floating-rate senior bank loans, the fund has minimal interest rate risk with a weighted average effective duration of 0.84 years, while offering a 30-Day SEC Yield of 4.06%.3,4

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1 Duration/Interest rate risk is a measure of a security's sensitivity to interest rate changes that reflects the change in a security's price given a change in yield.
2 Yield-to-maturity is the total return anticipated on a bond if the bond is held until the end of its lifetime.
3 As of 8/31/15. Weighted average effective duration is a measure of a bond's sensitivity to interest rate changes that reflects the change in a bond's price given a change in yield. Given that senior loans typically pay a floating rate of interest, they tend to have an effective duration of almost zero. As such, we estimate the duration for senior loans to be approximately 0.25 years.
4 As of 8/31/15. The 30-day SEC yield is calculated by dividing the net investment income per share earned during the most recent 30-day period by the maximum offering price per share on the last day of the period and includes the effects of fee waivers and expense reimbursements.

Posted on Wednesday, September 16, 2015 @ 1:46 PM • Post Link Share: 
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  Municipal Market Update - 2nd Quarter 2015
Posted Under: Municipal

During the first half of 2015, municipal bond total returns were distinctly modest. For the six months ended June 30, 2015, the Barclays Municipal Bond Index returned a slightly positive 0.11%. The Barclays Revenue Bond Index and Barclays High Yield (Non-Investment Grade) Index realized total returns of 0.17% and -1.92%, respectively.

Click here for the full report.

Posted on Tuesday, August 11, 2015 @ 2:17 PM • Post Link Share: 
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  Questions to Ask Your "Smart Beta" ETF
Posted Under: ETFs

Questions to Ask Your "Smart Beta" ETF
by Ryan O. Issakainen, CFA

One of the most common complaints we hear from investment advisors attempting to evaluate "smart beta" ETFs is that the category itself lacks cohesion.  ETFs employing a variety of different strategies, with a wide range of risks and objectives, have been given the "smart beta" label simply because they do not track traditional market-cap weighted benchmark indices.  Alternatively, we believe advisors are better off judging ETFs on the basis of their own underlying strategies, rather than attempting to treat "smart beta" ETFs as a category.  The following presents a few questions we believe investors should ask as they begin this process, using as a model First Trust's AlphaDEX family of ETFs, which is comprised of 41 funds with $20.9 billion in assets-under-management (as of 6/30/15).

What is the objective of the underlying strategy?
In order to judge how successful a strategy might be, we believe it's important to first identify what it's trying to accomplish.  So-called "smart beta" ETFs have a wide range of objectives, ranging from maximizing dividend income, to increasing or decreasing market risk, to seeking exposure to other specific characteristics.  The objective of the strategy employed by First Trust's AlphaDEX ETFs is to seek better risk-adjusted returns than traditional benchmark indices, while maintaining a relatively high degree of correlation to those benchmarks.

From what universe of stocks are potential holdings selected?
We believe it's important to know what sort of holdings a strategy might include.  On the one hand, a broad universe may produce certain unexpected exposures or biases; on the other hand, a narrow universe may limit the level of exposure to certain characteristics sought by a strategy.  The universe of stocks for each AlphaDEX strategy is established by the holdings of traditional benchmark indices.  For example, the universe of potential holdings for the First Trust Large Cap Core AlphaDEX Fund (FEX) is established by the S&P 500 Index.  This is intended to prevent each AlphaDEX strategy from "drifting" into other categories.

How are stocks selected?
While some strategies include all potential holdings from a given universe, others select a smaller group, based on a variety of characteristics.  The AlphaDEX strategy selects holdings based on a scoring model designed to favor certain factors that, when combined, have historically been associated with better risk-adjusted returns.

The AlphaDEX strategy scores "value" stocks based on three separate factors: price-to-book ratio, price-to-cash flow ratio, and return on assets.  The first two factors identify whether a stock is cheap or expensive compared to other stocks in the universe, relative to certain fundamental measures (book value and cash flow).  The model scores "cheap" stocks higher than "expensive" stocks in order to seek to capitalize on the so-called "value" anomaly, which is the tendency of cheap stocks to deliver better risk-adjusted returns—and expensive stocks to deliver worse risk-adjusted returns—than predicted by the efficient market hypothesis.  The third factor, return on assets, provides an indication of efficiency and balance sheet quality.  Its purpose in the model is to bias the strategy in favor higher quality stocks.

The AlphaDEX strategy scores "growth" stocks based on five separate factors: three-month price appreciation, six-month price appreciation, twelve-month price appreciation, one-year sales growth, and price-to-sales ratio.  The first three factors measure momentum over various time periods, scoring high momentum stocks better than low momentum stocks.  This is done to seek to capitalize on the so-called "momentum" anomaly, which is the tendency for stocks that have performed best in the recent past to outperform over the next three to twelve months.  In addition to momentum, the growth model includes one-year sales growth in order to favor stocks whose momentum is supported by underlying fundamental revenue growth.  Lastly, price-to-sales is included in order to deemphasize more expensive high-momentum stocks.

How are weightings assigned?
A variety of weighting methodologies have been applied to "smart beta" ETFs, ranging from equal-weighting to weightings based on certain fundamental characteristics, such as earnings or dividends.  The AlphaDEX strategy uses the scoring model described above to assign portfolio weightings which results in weighting higher scoring stocks over lower scoring stocks.

How often is the strategy reapplied and the portfolio rebalanced?
Many "smart beta" strategies have higher turnover and more frequent rebalancing than traditional market-cap weighted benchmark indices.  The AlphaDEX strategy is reapplied, and holdings are rebalanced, on a quarterly basis for domestic funds, and a semi-annual basis for international funds.  As stock prices and company fundamentals shift over time, we believe this is necessary in order for the strategy to continue favoring relatively cheap, high-quality value stocks, and reasonably priced, high-momentum growth stocks.
Of course, the questions listed above are meant only to be a starting point for those attempting to get their arms around a continually expanding and evolving universe of so called "smart beta" ETFs.  Beyond these questions are many others pertaining to how well the risks and objectives of different ETFs align with those of individual investors.  For these questions, we believe investment advisors should play an essential role, evaluating the function that each ETF provides in the context of a diversified investment portfolio, and overall financial plan.

You should consider a fund's investment objectives, risks, charges and expenses carefully before investing. Contact First Trust Portfolios L.P. at 1-800-621-1675 or visit www.ftportfolios.com to obtain a prospectus or summary prospectus which contains this and other information about a fund. The prospectus or summary prospectus should be read carefully before investing.

A fund's return may not match the return of the index. Securities held by a fund will generally not be bought or sold in response to market fluctuations.

Investors buying or selling fund shares on the secondary market may incur brokerage commissions. Market prices may differ to some degree from the net asset value of the shares. Investors who sell fund shares may receive less than the share's net asset value. Shares may be sold throughout the day on the exchange through any brokerage account. However, unlike mutual funds, shares may only be redeemed directly from the funds by authorized participants, in very large creation/redemption units.

A fund's shares will change in value, and you could lose money by investing in a fund. One of the principal risks of investing in a fund is market risk. Market risk is the risk that a particular stock owned by a fund, fund shares or stocks in general may fall in value. There can be no assurance that a fund's investment objective will be achieved.

A fund may invest in securities issued by companies concentrated in a particular industry, sector or country. A fund may invest in small capitalization and mid capitalization companies. Such companies may experience greater price volatility than larger, more established companies.

An investment in a fund containing securities of non-U.S. issuers is subject to additional risks, including currency fluctuations, political risks, withholding, the lack of adequate financial information, and exchange control restrictions impacting non-U.S. issuers. These risks may be heightened for securities of companies located in, or with significant operations in, emerging market countries.

A fund may invest in depositary receipts which may be less liquid than the underlying shares in their primary trading market. A fund may effect a portion of creations and redemptions for cash, rather than in-kind securities. As a result, a fund may be less tax-efficient.
The funds are classified as "non-diversified" and may invest a relatively high percentage of their assets in a limited number of issuers. As a result, the funds may be more susceptible to a single adverse economic or regulatory occurrence affecting one or more of these issuers, experience increased volatility and be highly concentrated in certain issuers.

First Trust Advisors L.P. is the adviser to the funds. First Trust Advisors L.P. is an affiliate of First Trust Portfolios L.P., the funds' distributor.

AlphaDEX® is a registered trademark of First Trust Portfolios L.P. First Trust Portfolios L.P. has obtained a patent for the AlphaDEX® stock selection methodology from the United States Patent and Trademark Office.

Posted on Monday, July 27, 2015 @ 9:46 AM • Post Link Share: 
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  Second Quater 2015 CEF Review
Posted Under: CEFs
The second quarter was a difficult one for diversified closed-end fund (CEF) investors. According to Morningstar, the average CEF was lower by 3.70% on a share price total return basis. Most categories of the CEF marketplace experienced share price total return weakness during the second quarter and that is reflected in the fact that, according to Morningstar, all equity CEFs were lower by an average of 3.44%; all taxable fixed-income CEFs were down by an average of 3.40% and all municipal CEFs were lower by an average of 4.35%. While there are different reasons for the share price weakness depending on the specific category, in general the global increase in long-term interest rates during the quarter, coupled with volatile global equity markets (particularly during the last month of the second quarter), created a tough backdrop for many CEFs.

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Posted on Wednesday, July 22, 2015 @ 3:21 PM • Post Link Share: 
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  Senior Loan & High Yield Review
Posted Under: Senior Loan
Senior loans and high-yield bonds posted a strong first half of 2015, outperforming fixed-income instruments that are more rate sensitive as well as equities (see table on page 3). Much of this strong performance can be attributed to senior loans and high-yield bonds beginning the year at very attractive valuations, after a healthy bout of volatility in the back half of 2014. In addition, the strong relative performance has come as the rhetoric continues to build around the U.S. Federal Reserve (the "Fed") increasing interest rates later this year, which has served to pressure the returns of the more rate sensitive areas of fixed-income (investment grade corporate bonds, U.S. Treasuries, etc.).

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Posted on Tuesday, July 21, 2015 @ 9:20 AM • Post Link Share: 
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  Limited Duration Closed-End Funds Performing Well in 2015
Posted Under: CEFs
At the end of March I wrote about how, after a difficult 2014, senior loan closed-end funds (CEFs) were off to a strong start to the year in 2015.  Senior loan CEFs continue to perform well this year and are now up 6.93% (as of 5/21/15 according to Morningstar on a share price total return basis). Another category I continue to advocate diversified CEF investors have exposure to is limited duration CEFs. Similar to senior loan CEFs, limited duration CEFs had a disappointing year in 2014 rising on average only 0.56% on a share price total return basis, according to Morningstar. However, just as is the case with senior loan CEFs, performance has improved in 2015 for limited duration CEFs. Indeed, according to Morningstar, the average limited duration CEF is up 3.93% on a share price total return basis as of 5/21/15. In my opinion, there are likely two key reasons for the improved performance for limited duration CEFs so far in 2015 including:

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Posted on Wednesday, May 27, 2015 @ 11:46 AM • Post Link Share: 
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These posts were prepared by First Trust Advisors L. P., and reflect the current opinion of the authors. They are based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.
Search Posts

Municipal Quarterly Update – 1st Quarter 2015
Inside First Trust ETFs: A Snapshot of Q1 Flows and Trends
Senior Loan & High Yield Quarterly Review
First Quarter 2015 CEF Review
Senior Loan Closed-End Funds off to a Strong Start in 2015
Two Trillion Dollars and Counting…
Technology Dividends — A Missing Ingredient in Your Equity Income ETF
Fourth Quarter 2014 CEF Review
Senior Loan & High Yield Review – 4th Quarter 2014
Senior Loan & High Yield Quarterly Review
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