With capital markets expecting a rate-cutting cycle to begin, the yield curve has been steepening. But if economic data continues to reflect a hot economy, it may require keeping short-term bonds in play.
The expectation of rate cuts has been paving the way for fixed income investors to step further out on the yield curve. That could quickly turn into yesterday’s news.
With the Federal Reserve tightening monetary policy the last few years, short-term bond funds have been the default option. However, if economic data throws a curve ball and rates remain elevated, short-term bonds could remain that prime alternative.
“Data showing the fastest job growth in six months, a surprising drop in US unemployment and higher wages sent Treasury yields surging and had investors furiously reversing course on bets for a larger-than-normal half-point interest-rate reduction as soon as next month,” Yahoo Finance reported.
“It’s the latest wrenching recalibration for traders who had been setting up for slowing growth, benign inflation and aggressive rate cuts by piling into Fed rate-sensitive short-term US notes,” the report added.
That said, fixed income investors looking to mitigate any impending rate risk can consider the Vanguard Short-Term Bond Index Fund ETF Shares (BSV). The broad-based fund seeks to track the performance of the Bloomberg U.S. 1-5 Year Government/Credit Float Adjusted Index. This index includes a diverse array of bonds for added diversification. They include all medium and larger issues of U.S. government, investment-grade corporate, and investment-grade international dollar-denominated bonds that have maturities between one and five years and are publicly issued. With its low 0.04% expense ratio, BSV boasts a 30-day SEC yield of 3.80% as of Oct. 3.
Nuanced Short-Term Exposure
If fixed income investors don’t want broad exposure, but want to tailor their bond portfolio to specific corners of the debt market, Vanguard also offers them options. Specifically, they can get concentrated exposure to safe haven Treasury notes. Or they could take on more risk for more yield with corporate bonds while maintaining shorter maturity dates.
- Vanguard Short-Term Treasury ETF (VGSH): offers ideal exposure to short-term Treasury notes, focusing on maturity dates that fall within one to three years. It has a 30-day SEC yield of 3.70%. Like BSV, the fund also features a low 0.04% expense ratio.
- Vanguard Short-Term Corporate Bond Index Fund ETF Shares (VCSH): seeks to track the the performance of the Bloomberg U.S. 1-5 Year Corporate Bond Index. The index includes U.S.-dollar-denominated, investment-grade, fixed-rate, taxable securities issued by industrial, utility, and financial companies, with maturities between one and five years. The fund has a 30-day SEC yield of 4.28% paired with the same low expense ratio of 0.04%.
For more news, information, and strategy, visit the Fixed Income Channel.
