Investors’ thirst for yield and income is taking them to a familiar destination to start 2017: Investment-grade corporate bond exchange traded funds, such as the iShares iBoxx $ Investment Grade Corporate Bond ETF (NYESArca: LQD).
LQD is the largest corporate bond ETF trading in the U.S. LQD, which is nearly 15 years old, has over $29.5billion in assets under management, making it one of the largest bond ETFs of any variety.
Safe-haven demand for fixed-income assets returned in January as investors grew wary of the recent Trump-induced rally in equities that pushed stocks to record heights. Many waited on further clarification from President Donald Trump’s administration on policy changes to justify the heightened valuations. However, some of Trump’s actions or lack of clarity triggered some risk-off action.
“While we believe that current elevated inflows to bond funds and ETFs reflect foreign buying, we cannot prove it – and may never know as official data to our understanding treats bond funds and ETFs as equities. Adding to inflows to bond funds/ETFs are two other sources of foreign demand. First the dealer-to-affiliate buying volumes suggest solid direct buying this year after weakness in December,” according to a Bank of America Merrill Lynch note posted by Crystal Kim of Barron’s.
Year-to-date, investors have added $2.34 billion in new capital to LQD, a total surpassed by just three other ETFs. The Vanguard Intermediate-Term Corporate Bond ETF (NYSEArca: VCIT) has also been a prolific asset gatherer, adding $1.81 billion in new money this year, also enough to put it among the top 10 asset-gathering ETFs.
Those wary of the potential credit risks should keep in mind that these corporate bond ETFs focus on investment-grade debt securities. Specifically, LQD has 2.4% in AAA-rated corporate bonds, 12.5% AA, 40.2% A and 44.6% BBB. VCIT includes 1.3% Aaa, 7.9% Aa, 36.5% A and 54.3% Baa.
While the Federal Reserve has stopped implementing accommodative measures, global central banks, like the European Central Bank and the Bank of Japan, have expanded their quantitative easing programs, pushing yields on their government debt into the negatives, which made U.S. bonds a relative bargain.
“Demand is probably coming from outside the U.S. Late 2016, foreign demand for U.S. corporate bonds were weaker as interest rates and dollar funding costs rose. But as the funding costs collapsed in early 2017, bond fund inflows came back and then, re-accelerated early February as Asian investors came back from Chinese New Year,” according to Barron’s.
For more information on the credit market, visit our corporate bonds category.
Tom Lydon’s clients own shares of LQD.