Last year’s rate cuts still linger in the minds of advisors and fixed income investors. They may be inclined to focus on intermediate-term and longer-dated bonds and the related ETFs. After all, those assets have higher yields and are often more responsive to changes in interest rates. So if the Fed lower rates this year, there’s greater upside potential with longer duration fixed income fare. That doesn’t diminish the utility of short-term bond ETFs.
As advisors know, those funds come in three flavors: ultrashort bond, short-term bond, and short-term government bond. Broadly speaking, those are conservative options. Still, investors should still manage expectations when it comes to this corner of the bond market.
“Like other bonds, short-term bonds perform best during periods of declining interest rates and low or declining inflation,” noted Morningstar’s Amy Arnott. “Because of their limited maturities, though, they don’t benefit as much from downward trends in interest rates.”
Short-Term Bond ETFs Offer Utility
The universe of short-term bond ETFs is densely populated by both active and passive funds, many of which are cost-effective. So investors have plenty of choice and don’t need to worry about onerous fees.
Next up is assessing how short-term bond ETFs are useful to a broad swath of investors. Among the uses of these ETFs are as savings tools and as avenues for diversifying portfolio duration.
“Investors who already own an intermediate-term core bond fund might wonder why they should bother with a separate short-term fund. The main reason is that short-term bonds function better as a source of liquidity for investors who are actively spending from their portfolios,” added Arnott.
It’s also important to keep expectations in check with short-term bond ETFs. These funds are unlikely to outperform stocks over the long-term, meaning they’re best viewed through the lens of protection and income generation.
“Short-term bonds aren’t the best way to generate long-term wealth, but they serve a critical role in providing both current income and helping reduce risk at the portfolio level. They’re also a relatively safe way to save up for shorter-term goals, especially now that bonds are offering more generous yields,” said Arnott.
Examples of short-term bond ETFs include the JPMorgan Limited Duration Bond ETF (JPLD ) and the Schwab 1-5 Year Corporate Bond ETF (SCHJ).
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