Bond ETFs hoover up assets at expense of mutual funds

Pressure on costs and specific exposures have driven flows to ETFs

Tom Eckett


Believe it or not, fixed income investing is once again interesting and the ETF wrapper has been one of the main beneficiaries this year as investors become more targeted with the fixed income bucket in their portfolios.

With yields increasing across the majority of developed market debt and offering attractive entry points for investors, how to play fixed income has been at the top of the agenda for many investment houses.

To start with, the answer so far this year has been through ETFs. According to data from Bloomberg Intelligence, bond ETFs in Europe have seen €17bn inflows so far this year, as at the end of July, despite the challenging market conditions, a nod to the continued demand for the ETF structure.

At the same time, fixed income mutual funds this side of the pond have seen €122bn outflows over the same period, reflecting the wavering demand for fixed income, in general, and the high fees of active management in this asset class.

There are a number of factors driving this stark divergence in flows between ETFs and mutual funds this year, including the relentless pressure on costs and ongoing ETF innovation in relation to different maturity buckets.

Amid this increasing focus on costs, fixed income ETFs provide the perfect tool for investors to deliver portfolio outcomes, especially considering the way a buyer can now slice and dice the market.

This year, ETF investors in Europe have been particularly drawn to the mid-longer-end of the US Treasury curve as well as US dollar-denominated investment grade corporate bonds. Highlighting this, the iShares $ Corp Bond UCITS ETF (LQDE) has been the most popular corporate bond ETF in Europe this year, pulling in $2.9bn new assets, as at 26 September, according to data from ETFLogic.

This shows how investors are able to be more specific through ETFs, even with corporate bond exposure, and they have taken full advantage over the past nine months. For example, the iShares £ Corp Bond 0-5yr UCITS ETF (IS15), a short-duration play on sterling-denominated corporate bonds, has seen $465m inflows this year.

At the same time, the jump in US Treasury yields has driven a major rotation away from higher-risk government debt such as bonds issued by Beijing which currently offer similar yields to US Treasuries despite the potential risks involved.

The iShares China CNY Bond UCITS ETF, which has been immensely popular over the past few years, has seen a huge reversal in demand with investors pulling $6.2bn assets since the start of the year alone. Meanwhile, the iShares $ Treasury Bond 7-10yr UCITS ETF and the Invesco US Treasury Bond 7-10 Year UCITS ETF have seen combined inflows of $6bn. The direction of travel is clear.

The trend to ETFs is only set to pick-up more steam as investors take advantage of an increasingly diverse toolbox that offers exposure to specific parts of the market at a lower cost than other non-rules-based structures.

This article first appeared in ETF Insider, ETF Stream's monthly ETF magazine for professional investors in Europe. To access the full issue, click here.

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