Got Cash? Short-Term Bond ETFs Can Fix That

Shorter doesn’t always mean less.

Investors are increasingly piling into short-duration bond ETFs, which invest in debt securities with shorter maturities, usually between one and three years (but some with less than a year). The ultrashort bond category had its highest inflows on record last month, topping $24 billion. High yields for ultrashort-term bonds mean these funds can be an attractive alternative for investors looking to house their excess cash. Short-term bond ETFs also regularly outperform bank savings account yields and average CD rates, according to a recent BlackRock report. It’s an appealing option for advisors looking for a place to house clients’ cash.

“We’ve seen short-term yields elevated for a bit of time now, and that’s put a spotlight on a lot of these ETFs,” said Paul Olmsted, senior analyst of fixed income strategies at Morningstar. “Some [bank] products … aren’t yielding much at all. Investors are becoming more aware of this and realizing, ‘Hey, if I can earn 50 basis points more versus money markets … I want to do it.’”

Yield Curve Ball

The funds can also offer both diversification benefits and higher yield with relatively lower risk, specifically duration risk, or the risk of the price of a bond decreasing if interest rates rise. The investing environment was, up until early last year, considered an inverted yield curve, meaning long-term interest rates were lower than short-term ones. That further fed investors’ appetite for these funds, Olmsted said.

Some of the highest-yielding short-term bond products include:

• The JPMorgan Ultra-Short Income ETF (JPST), which has $37.5 billion in assets and a dividend yield of 4.36%.
• The Fidelity Low Duration Bond Factor ETF (FLDR) manages $1.38 billion and has a yield of 4.54%.
• The State Street SPDR Bloomberg Investment Grade Floating Rate ETF (FLRN), which oversees $2.79 billion and has a yield of 4.69%.

Time to Kill: Still, ultrashort isn’t for everyone. These products are best for someone with a longer time horizon who can take on more risk, Olmsted said. Another option is in a fixed-income portfolio comprised mainly of core bond funds (like those investing in government, corporate and securitized debt). Taking a portion of the money invested in those core bonds and putting them in short-term or ultrashort bond funds can help diversify and reduce duration risk.

“If you have an interest rate view, you can express it by putting something in a short-term or ultrashort-term ETF,” he said. “You can put your money in a safe spot, get a reasonable yield in a diversified ultrashort ETF. And there are some very good ones out there.”