Bond exchange traded funds provide exposure to hundreds if not thousands of individual bond securities, instantly diversifying an investor’s fixed-income position. However, all these bonds are still affected by changes in interest rates.
For example, the Vanguard Total Bond Market ETF (NYSEArca: BND) tracks 5,968 investment grade bonds issued by commercial mortgage-backed, finance, foreign, government mortgage-backed, industrial, Treasury/agency and utilities. [Should You Still Desire Bond ETFs For Your Portfolio?]
Through the single ETF, investors are exposed to a diverse portfolio of fixed-income assets, but all bonds have an inverse relationship to interest rates.
“Rising interest rates are like Kryptonite to bond exchange traded funds,” writes Matt Krantz for USA Today. “But the degree of pain experienced is largely dependent on how quickly rates rise.”
Specifically, BND has a 5.4 year average duration – if interest rates rise 1%, BND would decline about 5.4%. Since rates started to climb from the May 2 low, the ETF has decreased 4.7%.