High-quality corporate bond exchange traded funds have been one of the best performers in the fixed-income space, with investment-grade corporate debt on pace to generate double-digit annual returns.
The iShares iBoxx $ Investment Grade Corporate Bond ETF (NYSEArca: LQD) has increased 7.2% year-to-date and returned 10.9% over the past year. [Investors Should Hold Higher Quality Corporate Bond ETFs]
High-grade securities are moving toward their eight straight monthly gain and are delivering annual returns of at least 10%, something the asset class has managed only twice in the past 17 years, Bloomberg reports.
Investment-grade bond securities are also outperforming high-yield bonds for the first time in three years after overseas risks in Ukraine and the Middle East spooked junk bond investors over July.
From the June 25 peak to the August 1 trough, the iShares iBoxx $ High Yield Corporate Bond ETF (NYSEArca: HYG) and SPDR Barclays High Yield Bond ETF (NYSEArca: JNK) both dipped 3.5%. In comparison, LQD was only down 0.3% over the same period. [Hedge Funds Contribute to Volatility in Junk Bond ETFs]
“We prefer to move up in quality, even though yields are low,” Collin Martin, a fixed-income analyst at Charles Schwab & Co., said in the article. “Given the economic backdrop, liquidity and less susceptibility to an event-driven sell-off, conservative investors are better off in investment grade.”
Moreover, investment-quality debt was given Federal Reserve Chair Janet Yellen’s stamp of approval after she stated prices were in line with “historical norms,” whereas speculative-grade debt looked risky.
Additionally, the falling yield in benchmark 10-year Treasuries has also made corporate debt more attractive to income-focused investors. Yields on 10-year Treasuries dipped to 2.38%, whereas LQD shows a 3.03% 30-day SEC yield.
Some observers also attribute the outperformance in investment-grade debt to longer maturities, which has helped related bond funds outperform as rates declined this year. Specifically, LQD has a 7.78 year effective duration while HYG shows a 3.9 year duration. However, in a rising rate environment, the longer durations would negatively impact returns.
For more information on corporate debt, visit our corporate bonds category.
Max Chen contributed to this article.
Full disclosure: Tom Lydon’s clients own shares of LQD, JNK, and HYG.