This article was originally published on ETFTrends.com.
The 2018 Midterm Election provided the necessary rally for U.S. equities after washing investors through October's volatility machine, but this continues to persist in the capital markets as the Dow Jones Industrial Average began Monday with a 600-point loss as it struggles to recover on Tuesday--a sign that investors should give bonds a closer look--fixed-income exchange-traded funds (ETFs) in particular.
A combination of rising interest rates, a healthy injection of government debt into the markets and other external factors has made for a more lively bond market. The sell-offs in October was partly to blame as a confluence of these factors could signal that the environment for fixed-income investors will only get more complex.
However, CNBC contributor Mitch Goldberg says that this shouldn't cause investors to look the other way when bonds are mentioned. In fact, the case for bonds is more compelling.
"So much for the safety and stability of bonds, right? Maybe, but maybe it isn't so wise for investors to dismiss bonds outright," wrote Goldberg. "With the Dow Jones Industrial Average down 600 points on Monday, 65 percent of the S&P 500 in correction (or worse) and a litany of headwinds for investors, it feels like the current bout of volatility will be with investors for a long time."
"If it is indeed the case that the global economy is on shaky ground, you'd have to consider that maybe we have seen a near term ceiling in bond yields, making it more worthwhile to include bonds as part of a diversified portfolio," Goldberg added.
Investment-Grade ETF Options
For investors beginning their journey into bond ETFs, investment-grade issues would be a prime place to start based on the funds' debt issues with a lower risk for default, such as the iShares 1-3 Year Credit Bond ETF (CSJ) , ProShares Investment Grade—Interest Rate Hedged (IGHG) and the Xtrackers Investment Grade Bond Interest Rate Hedged ETF (IGIH) .
CSJ tracks the investment results of the Bloomberg Barclays U.S. 1-3 Year Credit Bond Index where 90 percent of its assets will be allocated towards a mix of investment-grade corporate debt and sovereign, supranational, local authority, and non-U.S. agency bonds that are U.S. dollar-denominated and have a remaining maturity of greater than one year and less than or equal to three years–this shorter duration is beneficial during recessionary environments.
IGHG tracks the performance of the Citi Corporate Investment Grade (Treasury Rate-Hedged) Index with long positions in investment grade corporate bonds issued by both U.S. and foreign domiciled companies. This is particularly important during market downturns when the propensity for a company to default on its debt is higher. As such, IGHG focuses on investment-grade issues to reduce credit risk.
IGIH seeks investment results that track the performance of the Solactive Investment Grade Bond – Interest Rate Hedged Index where a portion IGIH’s total assets will reside in long positions in U.S. dollar-denominated investment-grade corporate bonds. As in the case of IGHG, this strategy effectively eliminates exposure to riskier bonds with fund allocations in investment-grade issues.
High-Yield Bond ETF Options
For risk-on investors who are willing to sacrifice credit risk in lieu of higher returns, high-yield bond ETFs are an alternative. Some options to consider for high yield include the SPDR Bloomberg Barclays ST HY Bd ETF (SJNK) , iShares 0-5 Year High Yield Corp Bond ETF (SHYG) and iShares iBoxx $ High Yield Corp Bond ETF (HYG) .
SJNK seeks to provide investment results that correspond generally to the price and yield performance of the Bloomberg Barclays US High Yield 350mn Cash Pay 0-5 Yr 2% Capped Index. SJNK invests its total assets in the securities comprising the index, which is designed to measure the performance of short-term publicly issued U.S. dollar-denominated high yield corporate bonds. The short-term maturities will help hedge some credit risk due to the lesser exposure, but holdings are still less than investment-grade.
SHYG seeks to track the investment results of the Markit iBoxx® USD Liquid High Yield 0-5 Index, which is primarily composed of U.S. dollar-denominated, high yield corporate bonds with remaining maturities of less than five years. Like SJNK, debt maturities are shorter, thereby helping to hedge some credit risk, but issues are still less than investment-grade.
HYG tracks the investment results of the Markit iBoxx® USD Liquid High Yield Index, which is comprised of high yield U.S. corporate bonds that have less than investment-grade quality.
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