Will 2023 Be the "Best Year" for Bond ETFs in 14 Years?

Per Goldman Sachs, 2023 bond yields will surpass stock dividends. This hasn’t happened since the height of the Great Recession in 2008, per the report. Investors are finding value in bonds for the first time in a decade as higher interest rates make fixed-income lucrative, according to JPMorgan Chase & Co.’s Bob Michele, as quoted on Bloomberg.

The Goldman report stated that the S&P 500 Index of U.S. stocks has a dividend yield of only about 1.7% and cyclically adjusted earnings yield close to 4%. The gap in yields between stocks and bonds has tapered considerably since the COVID-19 crisis and is now relatively low.

Bonds Yields Better Current Income Than Dividends

Income investors can simply collect better gains through bonds. Bond yields are fixed. If investors hold a bond ETF until maturity, they can avoid uncertainty and enjoy a solid current income. FlexShares Credit-Scored U.S. Long Corporate Bond Index Fund LKOR charges 25 bps in fees and SEC Subsidized Yield is 5.86% annually.  LKOR is up 1.5% past month (as of Dec 27, 2022).

As of Dec 27, 2022, the highest yield (4.75%) was provided by one-year U.S. treasuries. On the other hand, Global X SuperDividend U.S. ETF DIV has lost 2.1% in the past month and yields 5.29% annually.

Bond ETFs Fare Better Amid Uncertainty

As uncertainty about recession lingers, higher quality fixed-income assets — such as investment-grade company debt, asset-backed securities and mortgage-backed securities — may be attractive investments next year, Mueller-Glissmann of Goldman Sachs says. Amid the recession, stocks appear as an uncertain bet. “[E]quities,” Goldman said, “and high-yield debt are particularly exposed to an economic slowdown or recession,” as quoted on Yahoo Finance.

Inflation to Fall in 2023?

Often stock prices and dividends tend to move cyclically with the value of money. So, investors can expect combined stock returns to follow inflation to a degree. On the other hand, fixed-income assets tend to generate low returns relative to high inflation. However, inflation is showing signs of cooling off late due to hawkish central banks. Most analysts expect inflation to decline in 2023. This is a positive for bond investing.

For the bond-lovers, below we highlight a few ETF strategies that could be winning ones.

High-Yield Interest-Hedged ETFs

High-yield interest-hedged ETFs take care of rising rate risks while providing solid current income. This ETF has proven to be pretty resilient in this year’s turmoil.

ProShares High Yield-Interest Rate Hedged ETF HYHG comprises long positions in USD-denominated high-yield corporate bonds and short positions in U.S. Treasury notes or bonds of approximate equivalent duration. The ETF yields 5.58% annually.

Convertible Bond ETFs

Convertible bonds are those that can be exchanged if the holder chooses to, for a specific number of preferred or common shares if the company's share price climbs past the said conversion price during the bond's tenure. The main difference of the asset with traditional bonds is that convertible bonds offer investors the right to convert their bond holdings into a company’s shares at the holder’s discretion.

First Trust SSI Strategic Convertible Securities ETF FCVT puts at least 80% of its net assets in a diversified portfolio of U.S. and non-U.S. convertible securities. It yields 3.71% annually and charges 95 bps in fees.

Senior Loan ETFs

Senior loans are floating-rate instruments and provide protection from rising interest rates. In a nutshell, a relatively high-yield opportunity coupled with protection from the looming rise in interest rates should help the fund to perform better.

Highland/iBoxx Senior Loan ETF SNLN could thus be a good pick for the upcoming plays. It yields around 4.88% annually and charges 56 bps in fees.

Floating Rate Bond ETFs

Floating rate notes are investment-grade bonds that do not pay a fixed rate to investors but have variable coupon rates that are often tied to an underlying index (such as LIBOR) plus a variable spread depending on the credit risk of issuers. Since the coupons of these bonds are adjusted periodically, they are less sensitive to an increase in rates compared to traditional bonds. iShares Floating Rate Bond ETF FLOT could be an intriguing bet.


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Global X SuperDividend U.S. ETF (DIV): ETF Research Reports

iShares Floating Rate Bond ETF (FLOT): ETF Research Reports

HighlandiBoxx Senior Loan ETF (SNLN): ETF Research Reports

ProShares High YieldInterest Rate Hedged (HYHG): ETF Research Reports

First Trust SSI Strategic Convertible Securities ETF (FCVT): ETF Research Reports

FlexShares CreditScored US Long Corporate Bond ETF (LKOR): ETF Research Reports

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