USFR: The Treasury ETF Whose Yield Resets Every Week When Rates Move
Rising rates are grinding through bond portfolios, but one corner of the Treasury market resets its coupon every single week. Whether that mechanism actually beats owning plain T-bills depends on a timing question most investors never think to ask.
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Minutes from the Fed’s Sept. 15-16 meeting, released Wednesday, Oct. 7, showed that most policymakers thought another rate increase would likely be appropriate before the end of the year. Officials continued to cite elevated inflation and upside risks to prices, while generally describing the labor market as stable and close to maximum employment.
The playbook from 2022 is therefore relevant again. When rates are rising, one way to protect the fixed-income side of a portfolio is to minimize duration. Another is to own floating-rate securities whose income adjusts upward as short-term rates rise.
Corporate floating-rate bonds and senior loans can accomplish that, but they introduce varying degrees of credit risk. If I want floating-rate exposure without lending to corporations, one of my preferred options is the WisdomTree Floating Rate Treasury Fund (USFR).
How USFR Works
USFR tracks the Bloomberg U.S. Treasury Floating Rate Bond Index, giving investors exposure to floating-rate notes issued by the U.S. Treasury. Treasury floating-rate notes have two-year maturities, but unlike conventional two-year Treasury notes, their interest rates aren’t fixed for the entire term. Their coupons reset weekly based on the most recent 13-week Treasury bill auction rate plus a fixed spread established when the note is issued.
That makes them behave very differently from conventional fixed-rate bonds. Suppose you own a Treasury note paying a fixed 4% coupon and newly issued comparable bonds begin yielding 5%. Your 4% bond becomes less attractive, and its market price generally falls to compensate. A floating-rate Treasury note continually resets its coupon as short-term rates change. When Treasury bill rates rise, its coupon follows relatively quickly. That dramatically reduces its sensitivity to changing interest rates.
USFR packages these securities into an ETF tracking the Bloomberg U.S. Treasury Floating Rate Bond Index. It charges a 0.15% expense ratio and, as of Oct. 6, had a 3.89% 30-day SEC yield. Credit risk is also minimal compared with corporate floating-rate securities because the underlying borrower is the U.S. Treasury.
Treasury interest remains subject to federal income tax but is generally exempt from state and local income taxes. That combination makes USFR useful for investors who want to stay at the very short end of the yield curve while allowing their income to adjust automatically as short-term rates move.
USFR vs. a Treasury Bill ETF
The obvious question is why you’d use USFR instead of simply buying a Treasury bill ETF. Both approaches accomplish something similar. A T-bill ETF owns very short-term Treasury securities and continually rolls maturing bills into newly issued ones. As rates rise, the portfolio gradually reinvests at higher yields. As rates fall, it gradually reinvests at lower yields.
USFR gets there differently. Instead of constantly relying on securities maturing and being replaced, the coupons on its underlying Treasury floating-rate notes reset every week according to the latest 13-week T-bill auction rate plus their fixed spreads. That can give USFR an advantage when short-term rates are rising quickly.
The opposite applies when rates fall. A fixed-rate Treasury bill purchased before a rate cut keeps its existing yield until maturity. An investor can therefore temporarily lock in the old, higher rate. USFR’s floating coupons adjust downward as short-term Treasury bill rates decline, so its income can fall relatively quickly during an aggressive Fed easing cycle.
The differences shouldn’t be exaggerated. A Treasury bill ETF holding securities with only a few months until maturity also reprices quickly, so neither strategy provides much opportunity to lock in yields for an extended period. That’s why I view USFR primarily as a tool for a particular job rather than something inherently superior to T-bills.
If I expect rates to rise or remain higher for longer, USFR is attractive because its income automatically resets with short-term Treasury rates while taking very little duration or credit risk. If I expect the Fed to cut aggressively, I might prefer locking in today’s yields for longer through fixed-rate Treasuries rather than owning an instrument designed to reset downward alongside policy rates.
And if I have no view whatsoever, either a T-bill ETF or USFR can fill the cash-management portion of a portfolio reasonably well. Right now, though, the Fed has just raised rates, inflation remains elevated, and most policymakers indicated in September that another increase would likely be appropriate this year. In that environment, I like USFR as a cash alternative.
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