With interest rates on a sharply declining trend after recent cuts, those investors who rely upon investment income are under increasing pressure. At the same time, eye-watering yields are on offer from certain parts of the capital markets, and available in ETF format. Should investors start to reallocate assets and take advantage, and have some already begun to do so?

Let's review some facts and figures. Sterling official interest rates recently fell to 3%, the lowest level since the 1950s. Eurozone rates have fallen to 3.25%. In the US, the Fed funds target is now 1%, and in practice has been trading well below that level. Japanese rates remain close to the zero level, where they have been stuck for years.

LIBOR rates (the rates for unsecured interbank deposits) have been trading at a significant margin over official rates since the credit crunch started, but even these have fallen back recently. According to the British Bankers' Association, the benchmark 3 month LIBOR rates on 10 November were 4.39% (euros), 2.24% (USD), 4.42% (sterling) and 0.89% (yen).

LIBOR overnight rates, which are of particular relevance to ETF investors, since most cash or money market ETFs track indices linked to one day deposits, are even lower. Overnight rates in the three currencies tracked by such funds have now fallen to 3.00% (euros), 0.37% (USD Fed Funds) and 2.42% (GBP).

So the money market ETFs which have proved highly popular in Europe this year are currently offering very little nominal return after fees - a little over 2% in sterling and Euros, and only a fraction of a percent in US dollars. If one compares the latest official inflation figures (4.5% year-on-year for UK CPI, 3.2% for Eurozone inflation and 4.9% for US CPI), investors in money market funds at current rates are guaranteeing a negative real return unless inflation rates fall substantially further. 

At the same time there are areas of the capital markets where much higher yields are currently available.

I asked Nizam Hamid of iShares to list a few high-yielding ETFs from his firm's range and from different asset classes, and he came up with the iShares FTSE EPRA/NAREIT US Property Yield Fund (yielding 16.3% as at 17 November), the FTSE EPRA/NAREIT Global Property Yield Fund (yielding 11.2%), the iShares DJ Euro Stoxx Select Dividend (9.7%), the iShares FTSE UK Dividend Plus (10.4%), the iShares £ corporate bond (8.4% gross redemption yield), $ corporate bond (8.1%), € corporate bond (5.9%), and the iShares JP Morgan US Dollar Emerging Market bond fund (yielding 10.6% to maturity).

The fact that equity yield levels have risen to such margins over safer benchmarks such as government bonds of course reflects concerns over possible future dividend cuts. And the high yields on offer from property ETFs reflect the fact that such funds offer exposure both to property income and property values, at a time when both have been falling. But corporate and emerging market bond ETFs are also offering  a yield pick-up of several percentage points, and Hamid noted that a number of iShares clients have been switching into corporate bond ETFs, especially as a way of reducing risk when compared to equities.

But shouldn't those investors who have been sitting in cash also be considering at least dipping a toe into these funds, whether equity or higher-yielding bond, and selling some of their money market ETFs? And have some already started to do so?

I posed these questions to Manooj Mistry of db x-trackers, and Dan Draper of Lyxor, whose money market ETFs have gathered billions of euros in assets over the last year.

Mistry said that so far the db x-trackers EONIA money market fund is still seeing net inflows, and recently reached €4.7 billion in size. While yield levels in certain areas of the equity market might now be attracting investors from the retail sector and independent financial advisor community, there were few signs so far of this occurring at the expense of the money market ETF sector.

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