Bond exchange traded funds have become a popular liquid alternative to the notoriously illiquid fixed-income markets.
Bond ETFs only make up a tiny 0.4% portion of global fixed-income assets. About $329.1 billion is held in bond ETFs, or 16.3% of the overall U.S. ETF industry, according to XTF data. [Areas That Fixed-Income ETF Investors Should Keep An Eye On]
However, investment interest is steadily growing as more investors enjoy the liquidity and flexibility of bond ETFs in a diversified portfolio, reports Chris Flood for the Financial Times.
According to ETFGI data, investors funneled a record $81.9 billion into bond ETFs over 2014. Over the first seven months of the year, investors threw $44.3 billion into bond ETFs, up 12.4% over the same period year-over-year.
“Demand for bond ETFs has increased dramatically and there is clear potential for further growth,” Thomas Merz, head of ETFs in Europe for UBS, told the Financial Times.
Merz sees increased interest among portfolio managers and family offices that have historically employed active bond managers as more investors understand the benefits of passive investment strategies.
Additionally, there is growing interest among large, institutional investors who see ETFs as an easy and liquid way to track broad market segments.
“Institutions’ need for liquidity has been a primary driver of fixed income ETF demand,” Andrew McCollum, an analyst at Greenwich Associates, told the FT.
McCollum pointed out that trading volume since 2008 in the five largest bond ETFs have risen much faster than their asset growth, which suggests that intraday liquidity has been an important factor for investors who want to quickly weave in and out of the market.
Nevertheless, the Bank of International Settlements has issued a warning on the perceived liquidity or “liquidity illusion” of bond ETFs. Specifically, the international body warned that investors may find it difficult to liquidate their ETF holdings in a steep market sell-off.
Ken Volpert, global head of fixed income indexing for Vanguard, on the other hand, argues that using bond ETFs is typically more efficient than trading individual fixed-income securities, especially in corporate and speculative-grade debt markets.
“It makes more sense to buy an ETF than the individual securities for long-term investors that want access to a diversified basket of bonds,” Volpert said.
For more information on the fixed-income market, visit our bond ETFs category.
Max Chen contributed to this article.