Investors Turn to Core Bond Allocations, Consider AGGY

Advisors and investors have shown a strong preference for fixed income ETFs this year over their mutual fund counterparts despite — or possibly because of — the bleeding that’s happened within the bond market as the Federal Reserve hikes rates aggressively.

Todd Rosenbluth, head of research at VettaFi, discussed the phenomenon in his piece Giving Thanks in the ETF Industry: “bond mutual fund investors have been much more loyal over the years, which is why the $475 billion that have been pulled from fixed income mutual funds in 2022, in stark contrast to the $165 billion that was moved into fixed income ETFs, came as such a surprise.”

Investments have boomed this year in bond ETFs, particularly within cash-like ETFs that have been popular with advisors for their ability to help hedge portfolios or bet on which direction the market will move in a year of persistent volatility, Ben Johnson, head of client solutions for asset management at Morningstar, told Bloomberg.

“That’s a sweet spot for the advisor market,” Johnson said. “For advisors holding their clients’ hand, they can say ‘If you’re really worried, we’ll take a little bit of risk-off and park it in something that suddenly has a pretty respectable looking yield.’”

In the wake of October’s hopeful inflationary prints, markets roared to life last week with strong rallies in equities and also back into core bond ETFs. One ETF that had strong inflows was the WisdomTree Yield Enhanced U.S. Aggregate Bond Fund (AGGY B+), an ETF that offers long-term bond exposure and seeks to track the Bloomberg US Aggregate Enhanced Yield Index.

AGGY had $55.4 million of inflows last week, the largest inflows the fund has received since May this year when the Fed began hiking more aggressively with a 0.50% interest rate increase. Since then, investors have largely been leery of core bond allocations, moving to shorter-duration exposures but with market hopes that inflation might finally be peaking, money is returning to longer-duration bonds.

The index that AGGY seeks to track uses a rules-based approach to reweight subgroups of the Agg in an attempt to earn higher yield and divides investment-grade securities into different risk dimensions such as interest rate risk, credit risk, and sector exposures and pulls from the treasury and agency sectors, credit markets, and securitized securities. The duration range of the fund is expected to be within a year of the Agg and the fund has an expense ratio of 0.12%.

AGGY is a fundamental part of WisdomTree’s barbell strategy that has particular appeal while rates continue to rise and uncertainty persists regarding how much the Federal Reserve will hike rates. A barbell strategy doesn’t seek to find the middle ground for risk but instead invests in both ends of low-risk and high-risk. In the case of bonds, this generally means investing in long-duration ETFs (10+ years) and short-duration bonds on the other end (three years or less).

For advisors interested in applying AGGY in a barbell strategy, the wildly popular WisdomTree Floating Rate Treasury Fund (USFR A-) that offers short-term bond exposure is the optimal counterpoint to AGGY’s longer-duration approach. USFR seeks to track the Bloomberg U.S. Treasury Floating Rate Bond Index, an index that measures the performance of floating-rate notes of the U.S. Treasury and contains floating-rate notes with two-year maturities and a minimum outstanding amount of $1 billion.

The index uses a rules-based strategy and is weighted by market cap as well as excluding fixed-rate securities, Treasury inflation-protected securities, convertible bonds, and bonds with survivor put options. USFR carries an expense ratio of 0.15%.

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