Many investors have underweighted high yield bond ETF strategies in recent years, satisfied with the opportunities found in other segments of the fixed income market. While seemingly a smart defensive strategy, avoiding high yield exposure could cause investors to unintentionally increase overall risk. Given the current market conditions that favor diversification and caution against making any big bets, investors’ move away from high-yield bonds actually appears contradictory to a balanced investment strategy.
High-yield bonds, which are corporate debt rated below investment grade, can be a valuable position in diversified portfolios. High yield bonds generally offer higher returns than corporate and government bonds, while also exhibiting lower correlation to other fixed income segments. Additionally, high yield bonds are less sensitive to interest rate risk, further contributing to the asset class’s diversification benefits.
Flows have tilted heavily towards investment grade fixed income products. While high-yield investments carry more risk compared to other fixed income options, strong corporate fundamentals have strengthened the integrity of the asset class. This puts corporate borrowers in a better position to withstand an economic slowdown. This could be reassuring for investors concerned about the outlook for the U.S. fixed income market.
Why Stay Active for High Yield ETF Exposure
As investors look to diversify their fixed income portfolios, the Fidelity Enhanced High Yield ETF (FDHY ) may be worth consideration. The fund is actively managed, which could add value in the high yield bond ETF space.
Active management in this segment has the potential to mitigate some of the risk in the sector. Active managers may be able to identify signs of deteriorating credit before indexes. This gives active managers the ability to adjust exposure in a timely manner to effectively reduce risk.
Furthermore, passive ETFs aim to replicate benchmark indexes, which can lead to unintended over-weights to highly leveraged companies. Passive ETFs may also be bound to rigid sector allocations, potentially limiting opportunity and increasing risk. On the other hand, active managers can adjust exposure accordingly, based on market conditions and risk-reward fundamentals.
See more: Stay Active & Selective in the Muni Market, Fidelity ETF Strategist Says
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Fidelity Investments® is an independent company unaffiliated with VettaFi LLC (“VettaFi”). These articles do not form any kind of legal partnership, agency affiliation, or similar relationship between VettaFi and Fidelity Investments, nor is such a relationship created or implied by the articles herein. VettaFi LLC is the author and owner of these articles.
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