“For investors who can tolerate more risk, adding non-core income assets may offer higher income potential as well as diversification benefits such as lower sensitivity to rising rates,” Couto added.
The simplest way to hedge against rate risk is to move down the yield curve and invest in short-duration bonds. For example, the iShares 1-3 Year Treasury Bond ETF (NYSEArca: SHY), which tracks short-term Treasuries, has a duration of 1.83 years. If interest rates were to rise 1%, SHY could see its price decline by about 1.8%. In contrast, funds with longer durations would see a greater decline.
Lastly, some may want to include municipal bond exposure to diversify a portfolio. Along with attractive tax-free federal income, munis offer low correlation to stocks and other fixed-income assets. Investors can take a look at a broad muni bond ETF, like the iShares National AMT-Free Muni Bond ETF (NYSEArca: MUB) and SPDR Nuveen Barclays Municipal Bond ETF (NYSEArca: TFI). [Time to take a look at muni ETFs]
“Investing in high-quality municipal bonds may reduce credit risk and volatility,” Couto said.
For more information on the bonds market, visit our bond ETFs category.
Max Chen contributed to this article. Tom Lydon’s clients own shares of EMB, HYG and JNK.