After touching a three decade low, benchmark rates are already starting to creep higher, weighing on bond exchange traded fund returns. Consequently, fixed-income investors need to adapt to the turning tides.
At the ETF Virtual Summit on January 15, the featured panel on “The Income Conundrum: Balancing Yield and Risk,” which includes experts from State Street Global Advisors, Northern Trust’s FlexShares and Horizons ETFs, will focus on the changing risk profile of the fixed-income market as interest rates rise.
Bonds and yields have an inverse relationship. As yields rise, bond prices fall. Over the past year, traditional bonds and related ETFs have underperformed as benchmark yields on 10-year Treasuries rose over 100 basis points since the May 2013 low.
Nevertheless, investors have incorporated a few fixed-income strategies to help offset rising interest rate risks. For instance, some have piled into high-yield bond ETFs to generate higher yields in an attempt to make up for any dips in the bond market.
The iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG) and the SPDR Barclays High Yield Bond ETF (NYSEArca: JNK), the two largest U.S. high-yield bond ETFs by assets, both gained over 5% in the last year. [High-Yield, Junk Bond ETFs Stand Out in Fixed-Income Market]
Alternatively, investors can hedge against rate risk by shifting down durations. A bond fund’s duration is a measure of sensitivity to changes in interest rates, so a bond ETF with a low duration will be less sensitive to rising rates.
For example, the iShares Barclays TIPS Fund (NYSEArca: TIP), which has a 7.42 real yield duration, fell 7.5% over the past year, whereas the FlexShares iBoxx 3-Year Target Duration TIPS (NYSEArca: TDTT), which has a 3.12 duration, dipped 1.6%.
Moreover, investors can consider alternative income strategies, such as a covered call ETF, including the Horizons S&P 500 Covered Call ETF (NYSEArca: HSPX), Horizons Financial Select Sector Covered Call ETF (NYSEArca: HFIN) and Recon Capital NASDAQ 100 Covered Call ETF (NasdaqGS: QYLD). By utilizing a covered call strategy, an investor who owns a stock sells call options, and collects the income from the premiums paid by the buyer of the option. [Covered Call ETFs Mute Volatility, Generate Income]
Financial advisors interested in attending the annual virtual summit on January 15 can register at ETF Virtual Summit registration.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.