Evaluating FPEI's Dividend Resilience in a Rising Rate Environment

The Federal Reserve's aggressive rate hikes in 2022–2023 have reshaped the income investing landscape, forcing investors to reevaluate traditional yield sources. While high-yield bonds and dividend stocks have faced volatility, preferred securities—particularly institutional-grade instruments—have emerged as a compelling alternative. The First Trust Institutional Preferred Securities and Income ETF (FPEI) exemplifies how a fund's structural design and active management can generate consistent income even as central banks tighten policy.

Structural Advantages of Preferred Securities

Preferred securities, unlike common stocks or fixed-rate bonds, offer unique features that align with rising rate environments. FPEI's portfolio is dominated by variable-rate and fixed-to-variable rate instruments, which reset coupons periodically based on benchmarks like the London Interbank Offered Rate (LIBOR) or the Secured Overnight Financing Rate (SOFR). This mechanism ensures that yields remain competitive as rates climb, mitigating the price declines typically seen in fixed-rate assets.

For instance, 94.24% of FPEI's holdings fall into the fixed-to-variable category, with a weighted average effective duration of just 4.23 years. This short duration reduces sensitivity to interest rate shocks, a critical advantage in a Fed tightening cycle. Additionally, the fund's focus on institutional preferred securities—larger-denomination, over-the-counter-traded instruments—provides access to high-quality issuers, including major banks like Bank of America and Toronto-Dominion Bank. These issuers often have strong balance sheets and stable cash flows, further insulating the fund from credit risk.

Active Management and Credit Discipline

FPEI's active strategy is another pillar of its resilience. The fund employs a dual approach: bottom-up credit analysis to evaluate individual securities and top-down macroeconomic positioning to adjust sector allocations. This allows the fund to capitalize on relative value opportunities while avoiding overexposure to sectors vulnerable to rate hikes. For example, its 55.05% allocation to banks leverages the sector's reliance on preferred securities for capital adequacy, a structural need that persists regardless of rate direction.

The fund's credit quality further underscores its defensive profile. Over 63% of holdings are rated BBB+ to BBB, with a weighted average par value of 102.87%, indicating a slight premium to face value. This premium acts as a buffer against price declines, while the inclusion of investment-grade contingent capital (CoCo) and additional tier 1 (AT1) securities adds yield without excessive risk.

Historical Performance and Investor Implications

FPEI's 5.25% 30-day SEC yield as of July 2025 reflects its ability to maintain income generation despite a 5.25% terminal Fed rate. Historical data shows that during past tightening cycles, such as the 2004–2006 rate hikes, preferred securities outperformed other income assets due to their variable-rate structures. FPEI's current yield-to-worst of 6.32%—a measure of the lowest possible return assuming no defaults—further highlights its reliability.

For income-focused investors, FPEI offers a diversified, high-conviction approach to yield preservation. Its geographic diversification (47.66% U.S., 18.63% Canada) and sectoral breadth (55.05% financials, 17.81% nonfinancials) reduce concentration risk while maintaining exposure to resilient issuers. The fund's active management also allows it to adjust duration and credit risk dynamically, a flexibility that passive strategies lack.

Conclusion: A Strategic Play for Income Stability

As the Fed's rate normalization continues, income investors must prioritize assets that adapt to shifting monetary conditions. FPEI's structural advantages—variable-rate instruments, active management, and high-quality holdings—position it as a standout option for those seeking stable, inflation-adjusted returns. While preferred securities are not without risks (e.g., call features, liquidity constraints), FPEI's disciplined approach and historical performance demonstrate its capacity to navigate rising rate environments.

For investors with a 3–5 year time horizon and a moderate risk tolerance, FPEI offers a compelling way to anchor an income portfolio. Its ability to generate consistent dividends, even as rates climb, makes it a strategic complement to traditional yield sources in an era of persistent monetary tightening.