Best and Worst Performing Bond ETFs

The ranking of best-performing bond exchange-traded funds this year included multiple emerging market and convertible bond funds, while the regional banking crisis dragged down preferred stock and international Treasury ETFs to fill out the worst-performing list. 

The First Trust Emerging Markets Local Currency Bond ETF (FEMB) emerged as the best-performing bond ETF so far this year, returning 10.4% through July 6, while the worst-performing was the Quadratic Interest Rate Volatility and Inflation Hedge ETF (IVOL), which lost -8.3%. 

Bonds haven’t bounced back nearly as much as stocks in 2023, following a tough year for both asset classes. Emerging market local currency funds dominated the top 10 funds, buoyed by stable rates across emerging markets, convertible bonds and a rising stock market. The bottom 10 is filled with preferred stock ETFs, which were dragged down by the banking sector. Also coming in at the bottom were international bond ETFs, which suffered from rising rates in Europe. 

The top and bottom funds were chosen based on year-to-date total return through the end of July 6, 2023. Leveraged funds and inverse funds were excluded because they are not meant to be held over long periods.  

Funds with less than $50 million in assets under management were also excluded to ensure all funds mentioned are liquid enough to be traded easily. While preferred stock ETFs aren’t bond ETFs, they were included because they are fixed income products. 

The Big Picture 

The bond market was pummeled last year as rising rates tanked bond prices. Rate hikes lower bond prices, as newer bonds with higher yields make existing ones less attractive. 

The Vanguard Total Bond Market ETF (BND), the largest bond ETF that tracks the entire U.S. bond market, was down 13.1%. The U.S. stock market, as measured by the SPDR S&P 500 ETF Trust (SPY), declined 18.2% during the same time period.  

In the first half of the year, BND has returned 1% so far, substantially lagging SPY’s 15.6% growth As the market has rallied, bonds have continued suffering from rate hikes. However, they’ve stayed positive, as the income from significantly higher yields has prevented performance from going negative for most bond funds. The bottom 10 bond funds were the only ones with year-to-date total returns out of the 410 ETFs we looked at. 

Convertibles Looking Good 

Two of the top 10 spots are held by convertible bond funds, with both funds in the top five. Convertible bonds are bonds that have the option to be converted into regular shares of stock. As the stock market has rallied much more than the bond market, preferred stock funds have benefited. 

International Bond ETFs  

Two spots on the top 10 list, including the top spot, are held by emerging market local currency bond funds. FEMB, the top-performing bond ETF, has benefited from the fact that countries making up some of its largest holdings, such as Brazil, Indonesia and Malaysia, collectively make up nearly 40% of its holdings.  

On the other hand, four slots in the bottom 10 list are held by international Treasury funds, which are focused much more heavily on developed markets.  

“European nations have been raising rates in order to catch up, as they generally started raising them later than the Fed,” etf.com Senior Analyst Sumit Roy noted. 

Preferred Stock Funds 

The worst-performing list has three spots filled by preferred stock funds, with the First Trust Institutional Preferred Securities and Income ETF (FPEI) breaking into the bottom three. This is largely because the banking sector is overrepresented in the world of preferred stock funds. FPEI’s banking industry exposure is roughly 50%, whereas the entire financial sector represents only 12.5% of the S&P 500 index.  

A regional banking crisis occurred earlier in 2022, with multiple regional banks across the U.S. experiencing large withdrawals, and some, such as Silicon Valley Bank, going under. This has hurt the banking sector’s performance this year; as represented by the Invesco KBW Bank ETF (KBWB), which is down 18.9% this year. 

Still, preferred stocks have been doing reasonably well, with two of the top 10 spots taken by preferred stock ETFs that either focus on a different sector, as in the case of the InfraCap REIT Preferred ETF (PFFR), or that exclude banks, such as the VanEck Preferred Securities ex Financials ETF (PFXF). 

Inflation Winners and Losers 

Quadratic Capital runs the worst-performing fund, IVOL, as well as one of the top 10 best-performing ones, the KraneShares Quadratic Deflation ETF (BNDD). IVOL is meant to protect against inflation and a steepening of the yield curve. A steepening yield curve means that long-term interest rates rise relative to short-term ones. However, inflation has been decelerating, and the interest rate curve is not only not steep, but is inverted, with shorter-term bonds yielding significantly more than longer-term ones.  

BNDD is meant to take advantage of a flattening or inverted interest rate curve and deflationary economic conditions, something investors are clearly expecting, and it is up 9.3% year to date. 

Despite broadly solid economic data from jobs and GDP growth numbers, this shows there are a substantial number of investors who are predicting a significant economic downturn coupled with the Federal Reserve lowering rates in the second half of the year 

Bonds have lagged stocks as a result of persistent uncertainty about how many more times the Fed will raise rates. A stronger stock market has helped convertible bonds rise, while preferred stocks were dragged lower by the regional banking crisis. Investors remain trepidatious about the future, keeping the interest rate curve strongly inverted.  

Best Performing Bond Funds 

Worst Performing Bond Funds