Investors have been wary of tech stocks as of late and instead are parking their money in investment-grade corporate bond funds. This week the sector garnered a whopping $2.9 billion in inflows which is the biggest week since July, over six months ago. Markets are expecting the Fed to hike this year, which means borrowing rates will start to hurt the growth-oriented stock, and the Nasdaq slumped to its worst start since 2008 as a result. However, the rising yields are also pushing more investors into relatively riskless corporate debt. Junk bonds didn’t get the same bump as many indices were down with a hawkish Fed.

Finsum: Don’t sell on tech stocks just yet, but it could be a bearish year for the number one market segment the last year if the Fed hikes four times!

Timing is everything in the market, and investors have a lot of reasons to be cautious in the bond market. A confluence of factors is making it likely that bond yields might jump up in 2022, particularly on longer-duration government debt. This is concerning as bond yields and prices move in the opposite directions so jumping on long-term debt right now could be deadly. For instance, the latest treasury yield rise sent an equivalent of an 800-point Dow Jones plunge in the iShares 20+ Year Treasury ETF (TLT). This is potentially scary as the markets are expecting three 25 basis points hikes from the Fed this year and inflation could also send bond yields rising. Most funds would see between a 1-3% hit on a 30-basis point yield spike.

Finsum: It’s critical to time the market but you might just stay away from long-term bonds, and stay on the shorter end of the duration.

ETFs saw a record performance in 2022 as inflows almost reached 1 trillion dollars, and while equity brought in over 60% of the inflows the second half was dominated by the fixed income market. This momentum in fixed income is expected to swell in 2022, particularly for the active ETF funds. Driving that those trending figures are the outperformance of active funds over passive funds, and an almost peak interest rate and inflation uncertainty. This sort of bourgeoning inflation and constricting Fed is unprecedented for the post-Volcker era. Active Issuers like T. Rowe price are very bullish on their prospects in the upcoming year.

FINSUM: While active funds haven’t brought home major returns they are getting better yield than passive funds and more diversity rather than piling on U.S. government securities.

The active ETF market is full of bonds as nearly 2/3rds of all active funds are in fixed income. Everyone is searching for a beta advantage in this market, and real estate could be the play. Index tracking fixed income isn’t cutting it because of the low yield environment, and treasuries taking up too much space. Investors are shortening the duration to mitigate the interest rate risks as inflation is baring down as well. Funds like DigitalBridge Fundamental US Real Estate, are managed fixed-income products that give exposure to fixed-income and REITs. Most investors hold bond funds for precaution but real estate does a better job of providing uncorrelated returns. DBRIX just hit a three-year anniversary in a growing market segment.

FINSUM: Shortening duration has been a no brainer for those with bond exposure but adding some real estate to the fixed income could really distinguish an active FI opportunity.

Muni ETFs have set a record for inflows this year drawing a whopping $83 billion. Bond buyers are fleeing the low yield big government debt with inflation risk and flocking to Muni funds which have more attractive fees and still have some after-inflation yield. Active funds are seeing a large uptick as a subsegment with big winners like JPMorgan Ultra-Short Muni Income ETF, and new active funds are popping up at a fast rate. Institutional investors see lots of growth in active fixed-income ETFs as more investors are chasing outperformance in a stagnant bond market. 

FINSUM: As the Fed comes down on the treasury market, muni’s are in a prime position to get yield pass through to fight against inflation.

The low rate environment has flipped the paradigm of many investors when it comes to the bond market, and most investors are leaning on higher-yield fixed income ETFs to augment their portfolios. Sure fixed-income ETFs are mainly used as a risk mitigator for most investors, but they also are the way to generate alpha. Investors can better manage the liquidity of Fixed income ETFs as opposed to individual bonds, so they pose fewer liquidity constraints when selling. With liquidity concerns off the table, investors can more freely move securities to look for an advantage of standard indices, hence alpha. On top of this, their broader exposure is a better source of risk mitigation as well.

FINSUM: Being able to flip a fixed income ETF faster than individual bonds is a leg up in decision making, and another reason to cast a wider net in the current fixed income market.

2021 is wrapping up which means we will have annual launch numbers for different types of ETFs. One area of surging growth is active fixed income where there were 15 new launches this year, this is quite an historic change from over 5 years ago when there were a meager 7 new funds launched. Overall the growth is staggering because a decade ago there were only about 25 active fixed income funds and there are well over 175 today. Historically low yields around the globe and significant interest rates have many investors pouring over $137 billion into active fixed income funds, as they rely on pickers to outperform the stock market. A variety of quantitative funds are popping up in fixed income leading to smart beta strategies which can also drive better returns.

FINSUM: Active fixed incomes growth has stayed stable the last five years but the explosion is no doubt a retort to the global macro factors facing fixed income managers. 

The latest data release from BlackRock’s iShares division revealed troubling news about the state of Bond Market ETFs: inflows slumped to just $14 billion which is the lowest since the onset of the pandemic. It's the taxable corporate bond market that's fairing the worst as investors are pouring less dollars into traditional corporate debt and junk bonds, amid fears of inflation eating yields. Instead, investors are turning to shorter duration and inflation protected bonds. Nearly 40% of fixed income flows went into inflation linked bonds, an almost unprecedented number. Investors have also started to put inflows into Chinese bonds as the international sovereign debt market was a relative winner among bond ETFs. China’s yield is the biggest draw to international investors as they see the debt as relatively secure and paying more than developed countries.

FINSUM: Expect corporate bond outflows to continue until the TIPS spread starts turning towards the Feds 2% inflation objective.

Over 500 institutional investors were surveyed and one of the top 5 most important themes going into 2022 is active management in areas like fixed income markets. A combination of factors are leading to more investment but broadly speaking, it is uncertainty which is having investors leaning into active management. On top of this, active management is preferred as the best strategy in risk management overall. A majority of those surveyed believe high fluctuation in inflows and outflows to passive funds put the market in a more systemically risky position. Despite a dragging start to 2021, 70% of investors said their active funds outperformed passive ones.

FINSUM: Picking stocks is always hard, but increased volatility could give pickers an edge.

Jerome Powell and the Fed turned a 180 this week with the future of its asset tapering and interest rate hikes. The Fed sees Covid and omicron as yesterday's demons and have set their sights on inflation. With that the Fed is gearing up for potentially three rate hikes in 2022 and is moving away from the transitory inflation story. This could be bad for bond investors as the Fed’s tune could change if omicron picks up or inflation shifts gears, meaning there is a lot of uncertainty about future rates. Nonetheless, higher rates could undercut existing long term bonds so those still invested in bonds should consider switching their investments to shorter duration Fixed Income ETFs or less sensitive corporate bonds. Lower duration bond ETFs will be more stable when there is interest rate uncertainty (unlike in standard times).

FINSUM: The Fed could just as quickly hop off the inflation fighting hawk train if they get a series of lower PCE reports, which means investors need to be ready for various scenarios.

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