Top Ten Bond ETFs Of 2009

by on December 23, 2009 | Updated April 30, 2010 | ETFs Mentioned:

In the business of asset management, bond investing may not get much love, but it can be as vital a component of an investor’s portfolio as equities. Fixed income investing isn’t nearly as sexy as stock picking, but as many investors have learned in recent years, a well-rounded bond allocation can significantly reduce the overall volatility of a portfolio.

As global equity markets crumbled in 2008, many low-risk fixed income funds surged, as investors flocked in droves to the safe haven of Treasuries. Equity markets have, for the most part, rebounded sharply in 2009, and demand for Treasury ETFs has plummeted. But not all bond ETFs had a disappointing 2009. In fact, many have posted big gains, outperforming even broad-based equity funds. Below is a look at ten of the best-performing bond ETFs in 2009:

10. SPDR Barclays Capital Short Term International Treasury ETF (BWZ)

BWZ Has Big Holdings In Japanese DebtDebt issues by the U.S. government may have taken a pounding in 2009, but international Treasuries held up pretty well. BWZ invests in short-term, fixed rate, investment grade debt issued by governments of developed countries outside the U.S. More than 90% of this ETF maintains a rating of “A” or above.

By country, BWZ gives the largest allocations to Japan, Germany, and Italy, with these three countries accounting for about 45% of total assets. The remaining exposure is spread across almost 20 countries, including (despite the stated objective) the emerging economies of South Africa, Poland, and Singapore. BWZ is up 10.6% on the year (see BWZ’s fundamentals here).

9. PowerShares Insured National Municipal Bond Portfolio (PZA)

Federal HallMuni bonds have been among the biggest fixed income winners in 2009, as increased confidence in the ability of state and local governments to make good on their debt, along with attractive tax features, have pushed these funds higher.

PZA is based on the BofA Merrill Lynch National Insured Long-Term Core Plus Municipal Securities Index, a benchmark that tracks the performance of in AAA rated debt issued by U.S. states or their political subdivisions. PZA invests only in municipal bond issues that are insured, reducing the risk inherent in such debt significantly.

PZA has added 12.1% in 2009 (see PZA’s performance charts here).

8. PowerShares Insured New York Municipal Bond Portfolio (PZT)

New York Muni ETFNext on the list is another insured muni bond ETF, although this fund has a much narrower focus than the broad-based PZA. PZT is designed to track the performance of AAA-rated, insured, tax-exempt long-term debt publicly issued by New York or Puerto Rico.

At present, about 27% of PZT’s holdings maintain a rating lower than AAA from S&P, highlighting the wave of downgrades that have swept across muni bonds. PZT has an average coupon of 5.2% and an average duration of just under nine years. This ETF is up 12.2% in 2009, while the SPDR Barclays New York Municipal Bond ETF (INY) has gained 10.4%.

7. SPDR Barclays Capital Long-Term Credit Bond Fund (LWC)

Corporate Bonds Have Surged This YearLWC tracks the performance of the long term sector of the U.S. investment bond market, focusing on debt issues with at least ten years remaining until maturity. Although record low interest rates have weighed on long-term debt (80% of LWC’s holdings have at least 20 years until maturity), this ETF has been boosted by a big bounce-back in the corporate bond market. About 85% of LWC is invested in corporate bonds, spread across issuers in the industrials (51%), financials, (18%) and utilities (14%) sectors.

LWC has added about 15.7% in 2009, putting it well ahead of the more popular LQD.

6. SPDR DB International Government Inflation-Protected Bond ETF (WIP)

UK TIPs Have Pushed WIP HigherAs concerns about a surge in inflation have cropped up in 2009, investors have begun seeking out ETFs to hedge against an uptick in CPI. While TIP is by far the most popular inflation-protected bond ETF, its returns have been dwarfed by WIP, which has gained 16.6% year-to-date.

WIP is designed to track the performance of inflation-linked government bonds from both developed and emerging economies outside the U.S. Securities held by this ETF are denominated in and pay coupon and principal in local currencies, meaning that returns in 2009 were likely helped to some degree by a weak dollar. By country, WIP’s largest allocations are to the UK, France, Germany, and Mexico, which combine to make up about 50% of the fund.

5. Market Vectors High Yield Municipal Index ETF (HYD)

Hospitals Are Frequent Issuers Of High Yield MunisThis ETF, which represents a cross between the next two funds on the list, is based on the Barclays Capital Municipal Custom High Yield Composite Index. HYD maintains a 25% weighting to investment grade BBB bonds and 75% weighting in non-investment grade bonds. High yield munis are often issued by not-for-profit organizations such as hospitals, nursing homes, private colleges and charter schools, working in concert with public authorities, or by low-rated government entities (see HYD’s fact sheet here).

HYD has an average coupon of 5.5%, and has gained 16.9% on the year. It should be noted that HYD is subject to the Alternative Minimum Tax.

4. Market Vectors Long Municipal Index ETF (MLN)

You Can't Fight City HallAs concerns about the ability of state and local governments to meet their obligations have subsided, municipal bond ETFs have surged this year. This ETF is based on the Barclays Capital AMT-Free Long Continuous Municipal Index, a benchmark designed to track the performance of long duration municipal bonds. MLN has about 130 individual holdings, and average coupon of nearly 5%, and an average time to maturity of 24 years. MLN has gained 16.9% in 2009, making it the top performer among all national mini bond funds.

ETFdb Pro members can read more about the drivers of muni bond funds in our ETFdb Category Report (if you’re not a Pro member yet, sign up for a free trial or read more here).

3. SPDR Barclays High Yield Bond ETF (JNK)

Junk Bond ETFs Are A Hit in 2009Although we’ve tabbed broad fixed income ETFs such as BND and AGG as “total bond market ETFs,” this term may be misleading for several reasons. These aggregate bond ETFs don’t include any exposure to high yield bonds (better known by the derisive nickname “junk bonds”), debt instruments deemed to be at higher risk of default that generally pay higher rates of interest to compensate for escalated risk (see JNK’s technicals here).

Junk bonds have delivered big gains in 2009, with JNK adding 20.5% on the year. The iShares iBoxx $ High Yield Corporate Bond Fund (HYG) is up 15.8% and the PowerShares High Yield Corporate Bond Portfolio (PHB) is up 11.9%.

2. SPDR Barclays Capital Convertible Bond ETF (CWB)

Convertible Bond ETFs Cruised in 2009This ETF is linked to the Barclays Capital U.S. Convertible Bond $500 MM Index, a benchmark measuring the performance of the U.S. convertible bond market. Convertible bonds are debt instruments that can be exchanged at the option of the holder for a specific number of shares of preferred or common stock of the issuer. Because these securities provide the holder with the possibility of participating in the up side of the company, they are generally accompanied by lower interest rates.

Surges in most equity benchmarks in 2009 put the equity option on many of these hybrid instruments “in-the-money,” allowing bondholders to convert become equity holders. CWB has gained an impressive 24.7% so far in 2009.

1. PowerShares Emerging Markets Sovereign Debt Portfolio (PCY)

Debt From Emerging Markets, Such as the Ukraine, Has Gained Ground in 2009Just as emerging markets equities posted the biggest gains in 2009, an emerging market fixed income tops the list of the best performing bond funds for the year. As the global economy lifted itself from a recession, investors regained their appetite for risk and boosted funds that were perhaps punished too severely on the way down. PCY has gained 26.2% this year, putting it well ahead of the S&P 500.

PCY is designed to track the performance of a portfolio of liquid, U.S. dollar-denominated government bonds issued by approximately 22 emerging market countries. About 15% of PCY’s holdings are in debt securities rated A or better by S&P, while almost 70% has a rating of BBB or BB. Exposure is well diversified by issuing country: debt from Ukraine, Indonesia, Venezuela, El Salvador, and Turkey make up the five largest individual holdings (see PCY’s holdings here).

Unexpected Winners

Many investors may be surprised to see that the list is dominated by PowerShares, Van Eck, and State Street, three ETF issuers not widely thought of as the biggest players in the bond segment of the ETF market. Investors who have gone beyond the big names — AGG, TIP, and LQD — when constructing the fixed income components of their portfolios have been handsomely rewarded in 2009.

Disclosure: No positions at time of writing.