Episode 008 - Bond ETFs

Some starters:

You have not considered Bond ETFs for your overall investment strategy, how come? It is almost a guarantee that if you ask a retail client what their "favourite ETF" is, its an equity ETF. Yes, equity ETFs tend to have a much higher return over the long term, but what do you do with your allocations when you are only considering the short term or there is a lot of uncertainty in equity markets. Even at market downturns, investors tend to sell off their equity positions and sit in cash (confession: I did that once as well, so don't feel bad). So, is your investment style a matter of following the crowd; investing where everyone is investing, like your friends and all your friends are the cool kids invested in Equities. Or is it a matter of you finding difficulty in understanding the Bond market? I am hoping that the below discussion on Bond ETFs will help a bit, so that you get a better understanding at least.

A bit of stats of course!

First things first, some numbers! In the US this year, around $52Bill in reported ETF inflows for the first quarter of 2023 went to Bond ETFs and this amount was 2/3 of the entire inflow amount that went to ETFs in the 1st quarter. The amazing thing about this is that, Bond ETFs only make up 20% of the ETF industry in the US, which means that US investors have been chasing bonds this past quarter. Unfortunately, I don't have the flows for SA ETFs, but I know for a fact that the percentage share of Bond ETFs in the local ETF industry comes at a low of approximately 4.8%. Only two Bond ETFs have cracked the R'Billion mark in South Africa, and that is the Satrix GOVI (R2Bill) and the CoreShares GOVI (R1.6Bill). The other 11 Bond ETFs make up half the fixed interest assets.

What the heck is he talking about?

Wait! Let's sort of slow down and press rewind and go back to what Bond ETFs are, and why you would even consider them for your portfolio. Unlike in stocks, when you buy a bond instrument you don't actually have any ownership - you are simply loaning your money and expecting something back from the borrower (because they didn't have this money) and then receive all your money at the end of the agreed term. Governments tend to use this mechanism a lot, to put money into their fiscal and do some cool stuff like build better roads and stuff. In fact the biggest Bond ETFs make use of the GOVI index, which is a JSE issued All Bond Government Index that consist of South African Government issued bonds.

Ok, keep going!

If you have got to this part in your reading, then I definitely think I have your attention! Now get this, there's a very good reason why Q1 2023 numbers in the US look so high in terms of flows into Bond ETFs, investors are chasing yield income! When inflation is sky high, and there is a lot of uncertainty in the equity market, you want to preserve your investments by seeking safety but at the same time you want the growth of your investment to keep up with inflation. Stock markets have been so volatile, when it hit end of September 2022, people actually stopped posting their portfolio screen shots because my goodness it was bad there by Equities! The chickens had come home to roost at that time because SA equities were down 10%, Listed Properties stocks were down 16% (gosh!) and the Nasdaq was down a whooping 24% year to date. Guess where the South African bonds were sitting, down a mere 1% year to date.

Ok Mr Bond, take my money, now!

There you have it, around 13 Bond ETFs (I think the Cloud Atlas one has been suspended for now) are there for the taking. But do remember that past performance does not guarantee you any future performance, I am typing this at a point in time. You can trade Bond ETFs exactly the same as equity ETFs, you can also hold them strategically in your portfolio together with your favourite equity ETFs. Their performance tends to be different in how equities behave, so that means they tend to offer diversification in your portfolio. Read up on Bond ETFs or even Unit Trusts and you will see that there is quite a lot to pick from. These ETFs average 0.30% TER so they are quite low cost and the FTSE/JSE All Bond index has be returning 11.6% per year in the last 3 years to March 2023 on your capital and you can get a yield of around 7-9% in these bond ETFs.

Signing out!