Davis’s Quadratic launches deflation ETF

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Nancy Davis, Quadratic

Asset management firm Quadratic Capital Management was founded in 2013 by Nancy Davis who is portfolio manager for The Quadratic Interest Rate Volatility and Inflation Hedge ETF (ticker: IVOL).

That product, which now has USD3.25 billion in assets, is now joined by a new product, the Quadratic Deflation ETF (BNDD), designed to help mitigate downside risk, while maintaining upside potential. 

BNDD seeks to profit from a variety of challenging environments including lower growth, deflation, lower or negative long-term interest rates, and/or a reduction in the spread between shorter and longer-term interest rates by investing in US Treasuries and options.

The firm writes that in the US, government debt levels have soared recently amid multiple rounds of fiscal stimulus in response to the Covid-19 pandemic. Other recent trends include an aging population, advancements in technology, tax increases and increasing productivity.

“Some investors have expressed concerns that the US will experience an environment similar to Japan given the debt increase and labour market. Quadratic Capital aims to help these investors achieve their goals using our expertise in the interest rate and options markets,” says Davis.

The BNDD portfolio is mainly comprised of long-dated US Treasury bonds, which are enhanced by a portfolio of options. Bonds tend to perform well during times of deflation, due to low interest rates. When interest rates fall, bond prices typically rise. The options portion of the portfolio is expected to increase in value with the compression of the spread between shorter and longer-term interest rates.

The options within the BNDD portfolio are traded on the OTC interest rate markets, which are typically not available to most investors. Davis says that the firm has enjoyed its growth through the ETF wrapper as it makes it more accessible to investors. 

The new product comes as a result of investor demand, she says. “Our first fund is an inflation fund but most investors, such as institutions and insurance companies, are saying that the low-rate environment is a problem for them. They are asking ‘how can we benefit from lower rates,’” Davis says.
“This fund is a way to benefit from the low-rate environment.”
Her parallel with Japan is striking. She looks back to the late 1980s, when Japan was a global superpower. “The Nikkei topped out in 1989 and we are still below where we were then,” she says.”
“We don’t want the US to go that way, but the Fed is hawkish, with more hikes in interest rates predicted but either of our funds are well set for all markets,” she says. “We are trying to give access to the interest rates markets that many investors don’t get access to, through ETFs and these are the biggest markets in the world. Most people own real estate, as a bulk of their net worth, so it is very relevant.”

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