Never mind the depressed yield income being squeezed from bond investments around the world. The current yield cycle will inevitably change and furthermore, it doesn’t alter the fact that bonds are still a major asset class that all diversified and architecturally sound portfolios should have exposure to.
A bond is a debt instrument issued by a government or company that borrows the funds for a specified period of time at a variable or fixed interest rate. Investors who buy bonds are paid interest on the money they loan to the bond issuer or borrower. The bulk of returns that come from investing in bonds is from income.
Because bond returns are generally less than stocks over the long run, minimizing investment cost is a crucial element of successful investing in the fixed income market. In this article, we’ll examine a few bond ETFs that offer affordable, diversified and core exposure to this major asset class.
“Core fixed income is a strategy designed to reduce risk and/or generate income,” said J.R. Rieger, global head of fixed income, S&P Dow Jones Indices. “Indices come into play to track the performance of the core market, i.e., investment grade sovereign bonds, sovereign inflation-linked bonds, and corporate bonds in both U.S. and global currencies.”
Similar to stocks, bonds can be subdivided into two basic groups: domestic and foreign. Bonds can be further classified by the type of issuing entity: corporate, government or municipality. Finally, a bond’s credit rating is another classification factor that is determined by an independent agency that rates the ability of the borrower to fulfill its financial obligations. Top rated bonds are referred to as “investment grade debt” whereas lower rated bonds are called “high yield” or “junk bonds.”
Now let’s analyze five bond ETFs that offer exposure to key segments of the global bond market. Each of these particular bond ETFs are good proxies of the fixed income markets they track and can rightly be designated as core building blocks for a bond portfolio.
U.S. Bond Market
The Schwab US Aggregate Bond ETF (SCHZ) covers the total US bond market and owns investment grade debt like mortgage backed assets and bonds issued by top rated U.S. corporations and the U.S. government. The fund is classified as an intermediate-term bond fund, meaning the average bond duration or maturity is greater than 3½ years and less than six. SCHZ contains market exposure to more than 2,000 different bond issues.
High Yield Bonds
Bonds with a lower credit rating generally command higher yields and that’s exactly how the SPDR Barclays High Yield Bond ETF (JNK) is invested. JNK owns publicly issued U.S. dollar denominated high yield corporate bonds with above-average liquidity. The fund includes non-investment grade, fixed-rate, taxable corporate bonds that have a remaining maturity of at least one year.
If you want core exposure to the U.S. junk bond market, JNK is a good place to start.
Muni Bond Market