ETF Investors May Find Opportunity in Bond Market Volatility

ETF Investors May Find Opportunity in Bond Market Volatility

Bond prices can’t make up their mind amid interest rate uncertainty.

Reviewed by: Staff
Edited by: James Rubin

Maybe the Fed is indecisive, or maybe it is investors. Perhaps it is the influence of big-money institutions, or simply the fact that ETFs now have so much influence on bond prices, particularly those which track the longer-term maturity segment of the bond market.  

Regardless of the reasons, the Federal Reserve’s 11 rate hikes, and now the speculation about whether they will reverse course this year, have put bond prices in play in a way we have not seen in a while. 

This shift started with the remarkable asset flows into the most recognized ETF that tracks long-term U.S. Treasury bonds, the now-$51 billion iShares 20+ Year Treasury Bond ETF (TLT). If I had written this article at the start of last year, the assets under management figure provided for that ETF would have been half of what they are today. And over that time, it has returned, including income distributions, exactly 0.03% through last Friday. 

TLT's Deceiving Performance 

This is a great example of how past performance can be deceiving. TLT has been flat for nearly a year and a half. However, within that time, it has had rallies and declines, as high as 20% or more in both directions. Just this calendar year, TLT has traded in a 10% range from top to bottom, with constant hints that it might fly or crash along the way. 

Of course, this is not a “TLT thing.” Rather, it is that ETF’s underlying holdings, which are U.S. Treasury bonds maturing in 20-30 years. That is the most volatile part of the yield curve. And though the 10-year bond yield is really the “benchmark” interest rate, sort of like the S&P 500 is the one-shot attempt by many to characterize “the stock market,” TLT’s massive inflow, including by retail investors, make it important as well.  

The iShares 7-10 Year Treasury Bond (IEF) and the iShares 10-20 Year Treasury Bond ETF (TLH), which surround that 10-year bond in their allocation, have each grown their assets by 30% since the start of 2023, which is small compared to the 100% gain in TLT’s asset base.  

Still, the key for ETF investors is less about who is winning the asset-gathering race, and more about how they can exploit this unusual time in the history of the bond market. That’s where a wide range of bond ETFs can help, regardless of what any investor’s sentiment is toward where rates may go. 

Are Interest Rate Hikes Done? 

There are plenty of ETFs which allow investors to access the Treasury curve, as well as corporate bonds, high yield, convertible, preferred stock and non-U.S. bonds. That wide set of choices is expected to gain when rates drop. But what about when they rise? 

That’s where ETFs like the ProShares Short 20+ Year Treasury ETF (TBF) can be considered to try to profit from rising long-term bond rates. And for those who are more concerned by bond volatility itself, the five-year-old, $650 million Quadratic Interest Rate Volatility & Inflation Hedge ETF (IVOL) is largely agnostic to the direction of rates and bond prices, aiming to profit from a rise in volatility itself. 

This is one strange bond market environment. Many of today’s investors grew up on near-zero interest rates, and now that levels have returned to what many of us used to consider “normal,” it helps that ETFs in many shapes provide the opportunity to deliver on a variety of objectives. 

Rob Isbitts' Wall Street career spans 5 decades and multiple roles, all dedicated to providing clarity to investors by busting classic myths and providing uncommon perspective. He did so as a fiduciary investment advisor, Chief Investment Officer and fund manager for 27 years before selling his practice in 2020. His efforts now focus exclusively on investment research, education and multimedia. He started ETFYourself and SungardenInvestment to provide straightforward commentary and access to his investment intellectual property for portfolio construction, stocks and ETFs. Originally from New Jersey, Rob and his wife Dana have 3 adult children and have lived in Weston, Florida for more than 25 years.