How Different Bond ETFs Have Performed This Year and Why?
Imagine a hiker trying to make his way up a hill with tiny, loose stones beneath his feet. His boots slip and he begins to slide down. He re-gains some traction and takes a couple of upward steps. But he soon slips again. This year, many investors feel much like that hiker, taking two steps forward then falling four steps back. Year-to-date, the S&P 500 index of US stocks has dropped about 22 percent to July 1, 2022. The global stock market index fell about 19.3 percent over the same time period.
When stocks fall hard, diversified portfolios with stocks and bonds don’t fall as far as portfolios invested 100 percent in stocks. Bonds are meant to stabilize a portfolio. Sometimes, bonds even rise a bit when stocks drop. So far this year, however, things look different. Bonds haven’t plunged as far as stocks, but they have still fallen hard. For example, the iShares Core Aggregate Global Bond ETF (AGGG) dropped about 13.84 percent over the first half of 2022, measured in USD. For a global bond fund, that’s a really big drop.
And investors who selected to buy bond funds based on how well they performed in the recent past took even bigger hits. For example, the iShares Treasury Bond 20+yr UCITS ETF gained a whopping 15 percent in 2019. And in 2020, it gained another 18 percent. It slipped about 4 percent in 2021, but the fund’s three-year performance was still stellar for a bond fund. That’s why, in 2021, it seduced plenty of investors.
It’s tempting to pick stock and bond funds based on recent performance. But we should never do that. In my book, Millionaire Expat (3rd edition) I mentioned that (at the time of the January 2022 publication) long-term bond funds had the strongest recent run. However, I said investors should always avoid them, no matter how tempting they might look.
Bonds and bond funds with long maturities get eaten alive when inflation soars. That’s why I didn’t recommend them in that book. For example, a 20-year bond market index comprises plenty of bonds with fixed interest rates that will expire after 2042. Let’s assume the average interest rate on those bonds were 2 percent. This year, inflation is close to hitting double digits. Nobody will want bonds paying 2 percent over 20 years if inflation is 10 percent.
And now that inflation is hitting us with sticks, investors are dumping their long-term bonds. Consequently, the supply of such bonds is outpacing demand, resulting in dropping bond prices. And when people see their investments drop in value, many of them sell. That’s what humans do, whether we’re talking about stocks, bonds, Dutch tulips or crypto-currencies. Momentum begets momentum, especially when it’s downward.
That’s why the iShares Treasury Bond 20+yr UCITS ETF, trading on the London Stock Exchange, plunged almost 22 percent over the first six months of 2022.
Other long-term bond market indexes fell similarly. Instead of such indexes dampening a portfolio’s fall, they pushed them down further.
In contrast, fixed income funds comprising intermediate or short-term bonds haven’t fallen as far. They also have a chance when inflation whips its tail. For example, when a 2-year government bond in a short-term bond index expires, a new 2-year government bond takes its place. And when interest rates are higher, that will be reflected in the new bond’s interest rate.
Short and intermediate bond market ETFs will still fall when inflation soars. But because they contain bonds with shorter durations (and can more quickly be replaced by bonds reflecting the new, higher interest rate) their prices don’t fall as sharply as long-term bond market funds. They should also begin to profit sooner.
The US government bond ETFs in the table below demonstrate such differences. Notice how the ETFs comprising bonds with longer maturities have fallen further than those with shorter-term maturities. The shortest-term bond ETF listed below has even made money this year.
US Bond ETF Performances January 1, 2022 – July 1, 2022*
|Bond ETF||YTD Performance||Bond Maturities|
Long Term 20 Years+
Medium Term 7.85 Year Average
Short-Medium Term 3-7 Years
Short Term 1-3 Years
Very Short Term 0-3 months
*Each of these funds trades on the New York Stock Exchange
If you own a bond market index comprising medium (intermediate) or short-term government bonds, congratulations. Your portfolio hasn’t likely fallen as far as a portfolio comprising 100 percent stocks. And despite the recent bond market drop, your bond market ETF should rise faster (when including interest) than the increase in the price of crackers over the next five years.
But that won’t happen every month or every year.
Patience is key.
Just continue to invest in a diversified portfolio of low-cost stock and bond market index funds or ETFs. Add money when you have it. Don’t try to time the market or chase recent winners.
Sometimes, the climb towards financial freedom feels and looks like two steps forward, then four steps back. You won’t see progress every year. But over the long haul, if you can stay consistent, be patient and keep cool, your diversified portfolio of stock and bond market ETFs should leave inflation in the dust.
Andrew Hallam is a Digital Nomad. He’s the bestselling author Balance: How to Invest and Spend for Happiness, Health and Wealth. He also wrote Millionaire Teacher and Millionaire Expat: How To Build Wealth Living Overseas
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Please note the value of investments can go down as well as up, and you may not get back all the money that you invest. Past performance is no guarantee of future results.