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Getting Strategic With Fixed Income ETFs in 2019

This article was originally published on ETFTrends.com.

In 2018, US-listed fixed income ETFs added a combined $97 billion in new assets, accounting for about 31% of all ETF inflows last year. Investors are extending their affinity for bond ETFs this year. As of Friday, Feb. 22 nd , seven of the top 10 asset-gathering ETFs on a year-to-date basis are fixed income funds.

Popular bond ETFs this year span multiple corners of the fixed income space, including corporate debt, international bonds and U.S. Treasuries. With the Federal Reserve widely expected to slow its rate-hiking trajectory or not even raise rates at all this year, more advisors and investors could be compelled to boost exposure to bond ETFs.

Of course, bond ETF investors must remain tactical and vigilant when seeking out the best opportunities in the fast-growing corner of the ETF space.

Bryan Novak, senior managing director at Chicago-based Astor Investment Management, LLC, recently discussed the firm’s Active Income strategy and opportunities for fixed income investors in 2019 with ETF Trends.

More Than Yield

During the Federal Reserve's previous easy monetary policy regime, many bond investors focused heavily on yield, but Astor's Active Income strategy goes beyond yield to look for low volatility opportunities.

“The strategy does not seek to make bets on where the best yield is, but rather takes a lower vol approach by diversifying across asset classes,” said Novak. “The strategy has done well to compliment core diversified bond portfolios that investors typically use, such as Bloomberg Barclays Aggregate Bond Index or other traditional fixed income exposure.”

ETF investors have also exhibited a greater willingness to gain exposure to U.S. debt. For example, the iShares 20+ Year Treasury Bond ETF (TLT) this year while the iShares 7-10 Year Treasury Bond ETF (IEF) is by far the top asset-gathering ETF in the U.S. this year, fixed income or otherwise.

U.S. Treasuries and bond-related ETFs strengthened toward the end of 2018 as investors looked to a safe haven to stabilize their investment portfolios, and this bond segment may continue to offer security if volatile spikes again this year.

In the current market environment, many anticipate the Federal Reserve to step back from its tightening monetary policy. The policymakers’ median rate expectations for 2019 dipped to two interest rate hikes from three in response to the latest “dot plot” projections due to a softer growth and inflation outlook.

IEF and TLT are among the ETFs that can be part of Astor's Active Income strategy.

“In more risk-averse periods, the strategy also allocates to treasury exposure,” said Novak. “The portfolio exposure will also reflect a duration based on our view of current interest rate movement and rate policy.”

Still Going Short

Last year, some of the most popular fixed income ETFs were short duration funds, including the iShares Short Maturity Bond ETF (CBOE:NEAR) , which has an effective duration of just 0.48 years and the SPDR Bloomberg Barclays 1-3 Month T-Bill ETF  (BIL) .

While the U.S. interest rate outlook is more sanguine this year, some investors are still embracing ETFs such as NEAR and the Invesco Ultra Short Duration ETF (GSY) . GSY has seen inflows of $321.55 million over the past 90 days, a total surpassed by just three other Invesco ETFs.

“The risks are more balanced now, however short duration exposure should still be desired to balance out a yield portfolio at this point, at least in the first part of 2019,” according to Novak. “What would change that view would hinge on economic trends, and broader weakness could support. I would also add that an extension in term premium could entice investors to look further out.”

Looking At Leveraged Loans

Astor's Active Income strategy can also feature high-yield corporate bond exposure via traditional ETFs or via senior loans and funds such as the SPDR Blackstone / GSO Senior Loan ETF (SRLN) .

Senior loans, bank loans or leveraged loans may act as an attractive alternative. A Senior loan is a private loan a firm takes from a bank or a syndicate of lenders. The loans are backed by the borrowers’ assets, which act as collateral. If the borrower defaults, lenders have a senior claim on the defaulters’ assets.

“One thing we have been very focused on is leveraged loans,” said Novak. “We have held positions in this area consistently for a number of years now. While still offering an attractive profile in our portfolio, we have recently lightened up on the exposure.”

High issuance and liquidity in the leveraged loan market are among the issues Novak and his team are monitoring.

“It is also a fairly new space for many investors, who are not sure how they will behave when the cycle changes,” he said. “The loan space is not as liquid either, which adds another variable to the picture. In stable and even moderately stressed markets, the securities have behaved well. December gave a test run on how they may behave if the cycle changes.”

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