Looks like duration is back on the menu, boys People have several ways to bet that interest rates might rise. One method has been falling out of favour for most of this year. The obvious approaches are 1) selling interest rate futures or 2) borrowing bonds in the repo market to sell them for cash. The main advantage of these techniques is that they let you pick which specific interest rates you want to bet on while leaving the others alone. For example, you might think that the one-year sovereign interest rate three years from now implied by the prices of three-year and four-year notes is unreasonably low but every other interest rate on the curve seems about right. You should short the four-year note and buy the three-year note. Those sorts of bets aren't very efficient if you don't have a view on which specific interest rates you want to target because you have to pay for the privilege of holding onto your position while you wait for prices to move. If you're just generally concerned that all interest rates might go up, it's smarter to just buy interest-only mortgage bonds or mortgage servicing rights. These instruments pay fixed coupons with the caveat that you don't know how many you'll get. As interest rates rise, the number of payments goes up. That makes IOs and MSRs a good way to hedge the risk of soaring interest rates. The reason is that people are less likely to refinance - or even move - if borrowing costs on new mortgages are much higher than on existing debts. Plus, you get to earn a small positive return even if rates stay flat. You stand to lose a lot of money if rates fall enough to encourage a wave of refis, but that's always a risk when you punt on the markets. Maybe you don't have a view on longer-term mortgage rates and want instead to focus on short-term interest rates that are most directly affected by monetary policy. One popular option, especially recently, has been to pile into leveraged loans. Like IO mortgages and MSRs, these products let you earn a positive return even when interest rates don't go up. Since the coupons are closely tied to short-term interest rates, they're arguably a better way to bet on Fed policy than instruments derived from mortgages. The downside is that, while rising rates boost your cash flow, they also increase the borrower's probability of default. That makes leveraged loans a poor hedge against large tightening moves. None of these assets are particularly attractive if you think rates are either going to stay at current levels or fall - exactly what has happened across the yield curve since the start of the year. One clear way of measuring the change in investor perception is to track fund flows. A new study from CreditSights puts things in perspective. After exploding in size (from an admittedly small base), leveraged loan ETFs have been shrinking for much of this year: Flows have reversed since April with outflows recorded in six months of the last seven. Outflows totaled another $130 mn in October after the record $348 mn in September. Due to strong inflows in the first quarter, year-to-date flows do remain positive, but only at a minor $215 mn, which constrasts to the $5.4 bn logged in 2013. (Mutual funds that buy floating-rate loans to junk-rated companies have also been experiencing outflows. As of the end of October, the combined amount of money pulled out of mutual funds and ETFs in this category was about $10.4 billion, which represents about 6 per cent of the assets held in these instruments at the peak in February.) By contrast, 2014 has been a great year for aggregate bond ETF inflows, especially compared to 2013 - a time when fears over the consequences of the "taper" were causing panic selling and rate increases: In other words, it looks like ETF investors are putting duration back on the menu after a brief scare last year. Whether they will continue to do so as we get closer and closer to the Fed's supposed "liftoff" date is another question.