Bonds are back, and there is a huge opportunity at the front end of the curve, according to iShares. In the asset manager’s Year Ahead Investor Guide released today, iShares noted that during the last decade, investors largely moved away from fixed income in search of yield amid a lower-rate environment. However, Gargi Pal Chaudhuri, head of iShares Investment Strategy Americas at BlackRock, noted that reaching a similar yield target today requires less equity risk, as fixed income yields have returned in 2022.
Indeed, the yield for the Bloomberg U.S Aggregate Bond Index was 5.0% at end of October 2022, up from 1.7% at year-end 2021. Chaudhuri believes that this is likely to drive a shift back into fixed income as it returns as an investable asset class.
The rapid shift higher in yields has created significant opportunities in high-quality, front-end fixed income exposures, according to iShares. The iShares 1-5 Year Investment Grade Corporate Bond ETF (IGSB) had a 30-day SEC yield of 5.4% as of November 28, while incurring less interest rate risk than the broader bond universe. IGSB’s effective duration was just 2.6 years, less than half that of the Bloomberg Aggregate Bond Index.
Chaudhuri believes that high-quality corporations with strong balance sheets can weather a mild recession, especially as many of these companies have refinanced their debts at lower yields.
Advisor and end client usage of short-term corporate bond ETFs has already been strong in 2022. Indeed, IGSB has added $1.5 billion of net inflows as of late November, with $1.2 billion coming in during the last four weeks, according to VettaFi data. The Vanguard Short-Term Corporate Bond ETF (VCSH), a peer of IGSB, has also been popular, gathering $3 billion in 2022, with $2.5 billion coming in just the last four weeks. However, demand is likely to persist into 2023, according to Chaudhuri.
Both ETFs invest primarily in bonds rated A or BBB by rating agencies, limiting the default risk. However, unlike investing directly in corporate bonds, advisors benefit from security-level diversification using fixed income ETFs.
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