Sometimes several trends converge at just the right time and create something really big. Those trends in question? The rise of active ETFs and the return of bond investing. With rising rates and bond yields now high, investors have gone gaga for all things fixed income. This comes at a time when active ETFs are starting to become the go-to choice for investors to get their active management fix.
The result is a huge convergence of growth.
Fund flows for active fixed-income products have surged, driving overall active ETF adoption. For investors, it’s wonderful news — they now have plenty of new choices for portfolios. Choices that could provide additional gains above broad indexes.
Investors Love Active Bond ETFs
Fund flows are often a great way for pundits, analysts and other investors to spot trends and highlight investor behavior. If there’s one major theme for this year, it has to be the surge of bond ETFs.
That’s the gist according to new data from asset manager and ETF sponsor, State Street Global Advisors. Looking at fund flows, State Street found that actively managed fixed-income ETFs pulled in more than $7 billion in June and have now taken in more than $41 billion by the start of July. That amount has already surpassed the record $33 billion in active bond ETF flows for all of 2023.
This chart from the Financial Times using Morningstar data highlights the surge in active bond ETF fund flows for the last couple of years. As you can see, there has been a significant surge throughout 2024.
Source: FT.com
This shows impressive adoption and fund flows. Looking at ETFs as a whole, investors have added nearly $413 billion into U.S. ETFs during the first half of the year. This is the highest semi-annual total since the back half of 2021, and ETFs are now on pace to blow past 2023’s and 2022’s total yearly hauls of $583 billion and $591 billion, respectively.
Two Huge Adoption Factors
So, why have active ETFs taken an impressive 10% of all inflows?
For starters, bonds are at some of their most attractive valuations in years. The Fed’s rate increases and other factors have now pushed up yields to levels not seen since before the Great Recession. This makes them a more attractive asset class than stocks. Why take extra risks when you can earn 4% to 7% in bonds?
The second piece is how to get that exposure. And it turns out that active management in fixed-income assets is top-notch. Active management works well in areas of the market and in asset classes in which managers can exploit various inefficacies. Because bonds don’t trade on exchanges, there are several pricing differences. Moreover, credit research and other analysis can be used to find bargains and other securities.
This also plays into the major bond benchmarks and passive management within the sector. Indices such as the Bloomberg Aggregate Bond Index (Agg) are weighted based on the amount of debt outstanding, similar to how a stock index uses market capitalization. With that, companies with the most debt get a higher place in the index. You are ultimately rewarding the biggest debtors with more pull on the index, which is not necessarily a great idea. Secondly, many bond indices leave out plenty of opportunities. For example, the Agg only captures 49% of the total U.S. bond market, with Treasury and agency mortgage-backed securities (MBS) making up about 70% of that total.
Active management doesn’t have to look like its benchmark and can overweight/underweight these various categories. Depending on the fund’s mandate, they can add other areas of the U.S. bond market like asset-backed securities (ABS) or high-yield bonds as well as move up or down the duration ladder.
Bonds and active management tend to go hand-in-hand. Now, ETFs happen to be the best structure for this.
Structurally, ETFs offer compelling “wins” for investors, including the ability to offer lower taxes for portfolios. By nature, bonds are a higher-taxed asset class, with coupon payments coming at ordinary income rates. Secondly, the creation/redemption mechanism of ETFs allows funds managed to pass through capital gains. That’s huge when you’re buying bonds at discounts to their par. This helps on trading taxes as well. Add in the lower cost of ownership, which allows investors to keep more yield, and you have a recipe for dominance.
Putting it all together, you have a strategy for strong fund flows and adoption.
Going Forward
Given the benefits of going active within fixed income and using ETFs to get the job done, fund flows into these products show no signs of slowing. While there might be asset allocation fund flow changes, active bond ETFs are likely to command the lion’s share of flows for the time being. The benefits are too great for portfolios to ignore.
Wall Street has continued to hear that cry. New active fixed-income ETFs continue to be the bulk of new filings. Innovation and strong product development are occurring at a rapid pace. All in all, This is a great opportunity for investors. More choice allows for better outcomes, honing in on just the right product for a portfolio. With plenty of managers, mandates, and styles, there is now an active fixed-income ETF for everyone.
Active Bond ETFs
These ETFs were selected based on their low-cost exposure to active bond management. They are sorted by their YTD total return, which ranges from -2.8% to 2.8%. They have expenses between 0.18% and 0.70% and assets between $3B and $23B. They are currently yielding between 4.4% and 9%.
| Ticker | Name | AUM | YTD Total Ret (%) | Yield (%) | Exp Ratio | Security Type | Actively Managed? |
|---|---|---|---|---|---|---|---|
| SRLN | SPDR Blackstone Senior Loan ETF | $4.36B | 2.8% | 9.0% | 0.70% | ETF | Yes |
| MINT | PIMCO Enhanced Short Maturity Active ETF | $9.7B | 2.2% | 5.1% | 0.35% | ETF | Yes |
| JPST | JPMorgan Ultra Short Income ETF | $22.8B | 1.9% | 5.4% | 0.18% | ETF | Yes |
| TOTL | SPDR DoubleLine Total Return Tactical ETF | $3.1B | -0.7% | 5.2% | 0.55% | ETF | Yes |
| BOND | PIMCO Active Bond ETF | $3.5B | -1.1% | 5.0% | 0.58% | ETF | Yes |
| DFCF | Dimensional Core Fixed Income ETF | $3.35B | -1.3% | 5.0% | 0.19% | ETF | Yes |
| FBND | Fidelity Total Bond ETF | $5.1B | -1.5% | 4.9% | 0.36% | ETF | Yes |
| FIXD | First Trust TCW Opportunistic Fixed Income ETF | $4.4B | -2.8% | 4.4% | 0.65% | ETF | Yes |
Bottom Line
When it comes to bonds and fixed income, active is better. Investors have continued to realize that with fund flows into active bond ETFs surging so far this year. With plenty of benefits, other investors may want to follow suit for their bond exposure. Active ETFs are where it’s at.
