The Attraction of High-Yield Senior Loan ETFs in a Rising Interest Rate Environment

In a world where central banks continue to tighten monetary policy, income-focused investors are increasingly turning to high-yield senior loan ETFs as a strategic tool to navigate the challenges of inflation and rising rates. The First Trust Senior Loan ETF (CAD-Hedged) (FSL) has emerged as a standout option, offering a 9.67% forward dividend yield as of August 2025. This article evaluates the sustainability of this yield, the ETF's alignment with a rising rate environment, and its unique advantages for Canadian investors.

The Mechanics of a

FSL's forward yield of 9.67% is underpinned by its monthly distribution structure, which has historically demonstrated resilience despite minor fluctuations. For instance, the ETF's July 2025 payout of $0.09 per share marked a 5.26% decline from June, yet the 12-month average remains stable at $1.17 per share. This consistency is critical for income seekers, as the ETF has maintained a monthly payout for over a decade. The projected $0.09 per share distribution for September 2025 suggests a return to trend, supported by the fund's active management of its senior loan portfolio.

The ETF's ability to sustain high yields stems from its focus on floating-rate senior loans, which adjust monthly to reflect prevailing interest rates. This structure allows FSL to capitalize on the Bank of Canada's tightening cycle, locking in higher coupons as rates rise. For example, the fund's weighted average coupon of 7.19% and yield-to-maturity of 97.14% highlight its capacity to generate robust income, even in a volatile market.

Credit Risk and Portfolio Resilience

While high yields often correlate with elevated credit risk, FSL's portfolio is designed to mitigate this. As of , the fund's holdings are diversified across credit ratings, with 36.82% in B-rated loans and 15.70% in B- rated loans. Though these are speculative-grade investments, the senior loan market has historically exhibited low default rates. In 2024, the U.S. leveraged loan market saw a 0.94% default rate on a par basis, with distressed exchanges—restructurings rather than outright defaults—accounting for 4.56% of issuer-weighted defaults. These restructurings often result in improved recovery rates for creditors, reducing the impact of credit stress.

Looking ahead, 2025 is expected to see a 3.25–3.75% default rate, a modest increase but still relatively low by historical standards. FSL's active management approach, which includes frequent portfolio rebalancing and a focus on first-lien secured loans, further insulates it from credit losses. The fund's short weighted average maturity of 4.63 years also limits exposure to long-term interest rate volatility, ensuring that the portfolio remains agile in a shifting rate environment.

Currency Hedging: A Canadian Investor's Edge

For Canadian investors, FSL's CAD-hedged structure is a significant advantage. U.S. dollar-denominated senior loans are inherently exposed to currency fluctuations, which can erode returns when the Canadian dollar weakens. By hedging this exposure, FSL ensures that investors receive stable income in their local currency. This is particularly valuable in 2025, as the Canadian dollar has faced volatility due to divergent monetary policies between the U.S. and Canada.

The ETF's hedging strategy has kept its adjusted price stable around $16.80–$17.00 in 2024, even as the Canadian dollar fluctuated. This stability is crucial for retirees and income-focused portfolios, where predictable cash flows are paramount.

Strategic Value in a Rising Rate Environment

The combination of floating-rate loans, active credit management, and currency hedging positions FSL as a compelling choice for investors navigating a rising rate environment. Unlike fixed-rate bonds, which lose value as rates climb, FSL's income stream adjusts monthly, preserving its yield. Additionally, the fund's 30.00% average dividend growth rate over three years underscores its ability to outpace inflation and deliver compounding returns.

However, investors must weigh these benefits against the inherent risks of high-yield debt. While the senior loan market has remained resilient, a sharp economic downturn could increase defaults and reduce recovery rates. Diversification and a long-term horizon are essential for managing these risks.

Investment Advice

For seeking income in a high-rate environment, FSL offers a unique blend of yield, stability, and currency protection. Its 9.67% forward yield is supported by a robust portfolio structure and active management, making it a viable option for those comfortable with moderate credit risk. However, due diligence is required to monitor macroeconomic trends and the ETF's credit quality.

In conclusion, the First Trust Senior Loan ETF (CAD-Hedged) exemplifies how high-yield senior loan ETFs can thrive in a rising rate environment. By leveraging floating-rate instruments, active credit strategies, and currency hedging, FSL provides a sustainable income stream that aligns with the needs of today's income-focused investors. As the Bank of Canada signals potential further rate hikes, FSL remains a strategic asset for those seeking to balance yield with resilience.