Tracking Performance of Leveraged
and Regular Fixed-Income ETFs

Abstract

This article examines the tracking performance of the leveraged and regular fixed-income exchange-traded funds (FIETFs) on four major indexes: medium-term Treasury, long-term Treasury, investment-grade corporate, and high-yield corporate bond indexes. All sample FIETFs display significant tracking errors, and these tracking errors are much larger for funds on the longer maturity bond index. In addition, funds tracking corporate bond indexes show greater tracking errors than those on Treasury bond indexes. Finally, tracking errors are larger for leveraged FIETFs than for regular FIETFs and increase as the magnitude of target leverage increases for bull/bear funds. Over multiple trading days such as a week, the return deviation of a leveraged FIETF can be driven by both the net asset value (NAV) deviation due to fund management tracking error and compounding effect due to the daily rebalancing nature of LETFs. While both return deviation components are significant on a weekly basis, the size of the NAV deviation dominates that of the compounding deviation, reflecting the difficulty for fund managers to track fixed-income indexes.