9 Best Bond ETFs for 2017
April 20, 2017
Best Bond ETFs for 2017
The focus of this article will be on exchange-traded funds (ETFs) as investment opportunities and what I think are the best bond ETFs for 2017. Various types of bond ETFs will be looked at, such as inflation-protected bond ETFs, tax-exempt ETFs, and high-quality corporate bonds.
Investing in bond ETFs is a great way to get exposure to the debt securities market. Many of these offer investors two important things: a steady stream of income and a return on the principal when the investment matures.
Now, not just any bond ETF should be owned, because bonds are an interest-rate-sensitive investment product. Therefore, a change in interest rates could negatively impact the overall return, specifically in a rising interest environment.
Below is more information on the risks and advantages of investing in different type of bonds. The focus will be on Treasury and Treasury inflation-protected bonds, investment grade corporate bonds, and municipal bonds.
Whether you’re looking for the best bonds ETFs for retirement or to have an extra source of income, the ones below should satisfy your needs.
What Are Treasury and Treasury Inflation-Protected Bonds?
Treasury bonds (also known as T-bonds) are a debt security issued by U.S. government, with a maturity of more than 10 years. Income is paid out semi-annually and only taxed at the federal level. Treasury bonds are also considered to be a risk-free because the government has a little chance of defaulting.
Treasury inflation-protected bonds (TIPS) are, as the name implies, a bond investment that protects investors from inflation. When inflation is measured by the consumer price index, as it goes higher, the return does as well.
TIPS pay interest twice a year at a fixed rate and adjustments are made to the principal when inflation occurs. Therefore, at maturity, if there was inflation while owning the bond, there would be a greater payout of the principal amount.
Advantages of Investing in Treasury and Treasury Inflation-Protected Bonds
Investing in either bond provides a very low amount of risk, since, again, the issuer is the U.S. government. That’s why there will be a very high probability of getting the principal investment back.
The benefit of treasury inflation-protected bonds is right there in the name. This protection is great for those buying and holding the bonds, since if there is deflation, the original principal would be paid back.
Risks of Investing in Treasury and Treasury Inflation-Protected Bonds
If there are changes in interest rates during the bond’s holding period, it could impact the price of the investment. This adds to the volatility of owning the bond. And if the bond needed to be sold, it could be at an unfavorable price.
Treasury and Treasury Inflation-Protected Bonds List
| ETF Name | ETF Symbol | Price | Dividend Yield |
| iShares 10-20 Year Treasury Bond ETF | TLH | $137.19 | 2.03% |
| iShares 3-7 Year Treasury Bond ETF | IEI | $124.26 | 1.30% |
| Vanguard Short-Term Inflation-Protected Securities ETF | VTIP | $49.50 | 0.76% |
1. iShares 10-20 Year Treasury Bond ETF
iShares 10-20 Year Treasury Bond ETF (NYSEARCA:TLH) uses the ICE U.S. Treasury 10-20 Year Bond Index. Between 90% to 95% of the fund’s assets are invested in securities that make up the index. The bonds have a remaining maturity of more than 10 years and less than 20.
Unit holders of TLH ETF receive a dividend payment on a monthly basis. TLH is trading at $137.19 and the dividend yield is 2.03%.
2. iShares 3-7 Year Treasury Bond ETF
iShares 3-7 Year Treasury Bond ETF (NYSEARCA:IEI) tracks the results of the ICE U.S. Treasury 3-7 Year Bond Index. The fund invests at least 90% of its capital into the securities of the underlying index. It only looks at bonds that have a maturity between three and seven years.
There are over 60 bonds within IEI, with the largest position representing just over 11% of the total holdings. The dividend is paid out on a monthly basis.
3. Vanguard Short-Term Inflation-Protected Securities ETF
Vanguard Short-Term Inflation Protected Securities ETF (NASDAQ:VTIP) is designed to track the performance of the Bloomberg Barclays U.S. Treasury Inflation-Protected Securities (TIPS) 0-5 Year Index.
There are 15 bonds held within the fund and attempts are made to stay proactive to ensure there are no surprises regarding inflation. When they do happen, adjustments are made within VTIP.
What Are Investment-Grade Corporate Bonds?
An investment-grade corporate bond is one that has a high credit rating issued by a corporation. The credit rating for bonds is determined by rating agencies and based on their assessment of the balance sheet.
Investment-grade bonds have a credit rating of BBB/Baa3 or higher, depending on the rating agency. Bonds that have the rating of AAA/Aaa would be considered the highest-quality bonds. A lower letter means a lower credit rating.
A credit rating on a bond can change after being issued, based on the strength of the balance sheet.
The higher the credit rating, the lower the yield, since there is less risk associated with that bond. And since there is a high chance of getting paid, it can serve as a regular stream of income.
Risks of Investing in an Investment Grade Corporate Bond
A company could seem like a great investment at first, only to go from having a strong balance sheet to a weak one. Even though income will be the top priority for the company, it is important to look at the big picture—namely, if the cash flow can pay the interest and the bond back in time.
As noted above, bonds bonds being an interest-rate-sensitive investment means any upward movement could hurt the investment. Bonds with a high yield and long period until maturity would be most impacted, while bonds with lower yields and a shorter time period until maturity would benefit the most.
Advantages of Investing in an Investment Grade Corporate Bond
Bond investors have the highest priority over other investors. For instance, if a company has preferred shares or pays a dividend on its common shares, it cannot be paid until the bond holder is paid their interest payment. And if a business happens to file for bankruptcy, bondholders would be paid before shareholders.
Investment Grade Corporate Bond List
| ETF Name | ETF Symbol | Price | Dividend Yield |
| Vanguard Short-Term Corporate Bond ETF | VCSH | $80.05 | 2.11% |
| iShares 1-3 Year Credit Bond ETF | CSJ | $105.38 | 1.50% |
| iShares 0-5 Year Investment Grade Corporate Bond ETF | SLQD | $50.54 | 1.85% |
1.Vanguard Short-Term Corporate Bond ETF
Vanguard Short-Term Corporate Bond ETF (NASDAQ:VCSH) focuses on the Bloomberg Barclays U.S. 1-5 Year Corporate Bond Index. The primary sectors that VCSH invests in are utilities, industrial, and financial. The maturities of the bonds held are between one and five years.
There are more than 2,000 bonds held within VCSH and the largest holding would represent 0.7% of the total holdings. The average bond that is held has a maturity of three weeks.
2. iShares 1-3 Year Credit Bond ETF
iShares 1-3 Year Credit Bond ETF (NYSEARCA:CSJ) tracks the results of the Bloomberg Barclays U.S. 1-3 Year Credit Bond Index. At least 90% of the fund’s assets are invested in the underlying index. The bond will have a maturity period of more than a year and less than three.
The dividend is paid on a monthly basis. The current yield is 1.5%, based on the price of $105.38.
3. iShares 0-5 Year Investment Grade Corporate Bond ETF
iShares 0-5 Year Inverstment Grade Corporate Bond ETF (NASDAQ:SLQD) tracks the investments results of the Markit iBoxx USD Liquid Investment Grade 0-5 Index. The fund normally invests at least 90% of its assets in the securities of the underlying index. The remaining funds are invested in futures, options, swap contracts, and cash; these don’t account for more than 10% of the funds assets.
There are more than 900 holdings within the ETF and the average maturity of the bonds is 2.5 years. The dividend is paid out monthly.
What Are Municipal Bonds?
A municipal bond is a debt security that is issued by the state, a municipality, or a country. The funds are used for the construction of highways, bridges, and/or schools.
Municipal bonds are a special bond because no taxes will be incurred, including both state and local taxes, for as long as the bond is qualified for federal tax exemption. The bond’s issuer will disclose if the investment will incur taxes or not.
Type of Municipal Bonds
There are many different features embedded in municipal bonds, all of which are decided by the issuer. These includes different benefits, risks, and tax treatments. There are two main categories for this type of bond.
1. General Obligation Bond (GO)
A general obligation bond is not backed by the revenue from the project that the funds are used for. The funding for these bonds is normally taken from the property taxes.
2. Revenue Bond
With a revenue bond, the principal and interest payment are secured through a third party. This is done via fuel sales, hotel sales taxes, or other forms of taxes.
Advantages of Municipal Bond Investing
Many of the bonds offer tax exemptions, which means more money in your pockets and less in “Uncle Sam’s.”
Since the issuers of the bonds are government agencies, the credit rating is high, making the bonds investment-grade. As a result, there is less default risk from owning the bond and a high probability of receiving both a steady income stream and the principal.
Municipal Bond Risks
The default risk for municipal bonds is considered to be low when compared to corporate bonds, since government agencies will exist no matter the balance sheet status.
General obligation bonds are considered to have less risk than revenue bonds. That’s because a general obligation bond revenue stream is considered more steady, since property tax and other tax revenue must be charged no matter the economic environment. On the other hand, revenue bonds depend on consumer spending on fuel, hotels, and other more, so revenue bonds could be impacted by a downturn in the economy.
There is also interest rate risk associated with investing in municipal bonds. As interest rates increase, the price of the bond should decline. In addition, an interest rate change will have a greater effect on a longer-term maturity bond than a shorter one.
Buying and selling municipal bonds on the secondary market is quite difficult to do as well, given that the bonds are considered non-liquid. Therefore, do your research for a long-term view of the investment before committing.
Lastly, there is a possibility of the bond being redeemed prior to the maturity date. This is known as a call provision. An issuer would take advantage of this when interest rates drop, and then reissue another municipal bond at a lower rate. This immediately lowers the interest payment obligation that the issuer must pay, resulting in receiving a lower interest payment.
Municipal Bond ETFs List
| ETF Name | ETF Symbol | Price | Dividend Yield |
| iShares National Municipal Bond ETF | MUB | $109.80 | 2.37% |
| SPDR Nuveen Bloomberg Barclays Short Term Municipal Bond ETF | SHM | $48.60 | 0.98% |
| Vanguard Tax-Exempt Bond ETF | VTEB | $51.07 | 1.81% |
1. iShares National Municipal Bond ETF
iShares National Municipal Bond ETF (NYSEARCA:MUB) tracks the investment results of the S&P National AMT-Free Municipal Bond Index. The fund generally invests 90% of its assets within the securities that make up the index. The other 10% is often invested in certain futures, options, swap contracts, or cash.
There are more than 2,000 municipal bonds within this fund, providing a wide range of bonds, and it takes advantage of tax-exempt income. The average maturities of the bonds within the fund are five-and-a-half years.
MUB ETF pays a monthly dividend to unitholders. The current yield is 2.37% based on the trading price of $109.80.
2. SPDR Nuveen Bloomberg Barclays Short Term Municipal Bond ETF
SPDR Nuveen Bloomberg Barclays Short Term Municipal Bond ETF (NYSEARCA:SHM) seeks to replicate the performance of the Bloomberg Barclays Managed Money Municipal Short Term Index. The fund attempts to duplicate the price and yield of the index.
Of the over 900 holdings in the fund, no single holding represents more than one percent. The income that is provided to investors is tax-exempt.
3.Vanguard Tax-Exempt Bond ETF
Vanguard Tax-Exempt Bond ETF (NYSERCA:VTEB) seeks to track the Standard & Poor’s National AMT-Free Municipal Bond Index. At least 80% of the fund’s capital is used to purchase securities that make up the index. The primary focus of VTEB is owning tax-exempt municipal bonds and its holdings are high-quality bonds that have a low percentage of default.
The dividend is paid monthly to unitholders. There are more than 2,800 holdings within VTEB and no holding is greater than 0.2%.
