By ETF Heat Map Team
In a research paper, BATS Global Markets helped to soothe fixed income investors’ fears by arguing that ETFs could provide the much needed pressure “release value” for investors if the bond markets find themselves in trouble due to the increased scrutiny and pressure facing bonds in a historically low yield environment. The paper suggested that ETFs would help to promote liquidity and reduce the probability of compounding volatile swings in the market.
Tony Barchetto, executive vice president and head of corporate development at BATS, highlights in the research paper that, “Investors are increasingly turning to corporate bond ETFs to gain exposure to credit markets, creating a phenomenon where fixed income price discovery is occurring within an equity market structure. While some warn that such trading in bond ETFs could compound problems in a genuine liquidity crisis, the findings of this (research) paper suggest that corporate bond ETFs have performed similarly to ETFs in other asset classes. This is demonstrated by bid-ask spreads, trading volume, and quoted size during some periods of significant stress in the credit markets in recent years.”
BATS Global Markets is an exchange operator, and it provides essential services for financial markets. Since 2005, the company continues to facilitate trade in equity securities and exchange traded products for American and Europe and also functions as an American options exchange. CBOE (Chicago Board of Options Exchange) announced this morning that that it will acquire BATS Global Markets for $3.2 Billion, only 5 months after BATS made its public market debut, and the deal is expected to close in early 2017.
The iShares iBoxx $ Investment Grade Corporate Bond ETF, listed as LQD, has an expense ratio of 0.15% and has had a year to date NAV total return of 10.07% as of September 23, 2016.
The research paper concluded that, “The data from these ETF proxies across asset classes show markets reacting to stress in predictable ways, with spreads widening, volume increasing, and quoted size decreasing. But there is no evidence that corporate bond ETFs responded dramatically differently from the other ETFs with far more liquid underlying components.”
The report goes on to suggest that in an event of market downturn or liquidity issues, owning investment grade and corporate bond ETFs would be more advantageous for investors, leaving investors with more options, than only holding only the underlying components. It seems that the increased diversification and the ability to quickly trade out of a market position using corporate bond ETFs appears to be very attractive to fixed income investors.
The market for fixed income ETFs remains popular as long-dated debt showcased double-digit gains this year. During 2016, inflows into the fixed income ETFs exceeded $73 billion, and approximately $7 billion of the fixed income ETFs were actively traded on a daily basis during July 2016. Comparatively, the larger universe of the equity ETFs have only seen inflows of $54 billion as reported by Bloomberg.
Gaining exposure to bonds through an ETF is simpler and easier arguably easier than purchasing the bonds directly or via a mutual fund. ETFs enable the investors to trade shares of an underlying basket of assets on an exchange with increased liquidity.
However, it is important to note that the increased popularity of the corporate bond ETFs also continues to worry some investors about the impact this trend will have on the rest of the equity markets and the total bond market as observed by the reallocation of investors’ funds and noteworthy outflows from the equity based ETFs this year.
Corporate bond ETFs worth exploring include:
- LQD – iShares IBoxx Investment Grade Corporate Bond ETF
- VCSH – Vanguard Short-Term Corporate Bond ETF
- ITR – SPDR Barclays Intermediate Term Corporate Bond ETF