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Reconsidering Core Bond Exposure With This ETF

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Reconsidering Core Bond Exposure With This ETF
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The Federal Reserve revealed its second interest hike of 2018 and hinted at two more increases to come before the end of the year. Predictably, the news adversely affected a broad swath of fixed income exchange traded funds.

Thirty-six ETFs hit six-month lows Wednesday. Of those 36 funds, nearly half were bond ETFs. Though not entirely impervious to Fed tightening, the WisdomTree Barclays Yield Enhanced U.S. Aggregate Bond Fund (NYSE: AGGY) wasn't one of the bond ETFs making new lows.

What Happened

AGGY debuted nearly three years ago as an alternative to traditional bond funds tracking the Bloomberg Barclays U.S. Aggregate Bond Index. The WisdomTree fund follows the Bloomberg Barclays U.S. Aggregate Enhanced Yield Index.

Conventional aggregate bond funds feature massive allocations to Treasuries, a strategy that mitigates credit risk, but one that can also put a lid on investors' income while making interest rate risk part of the equation. The Bloomberg Barclays US Aggregate Bond Index is home to over 6,700 bonds, over 38 percent of which are Treasuries.

By comparison, AGGY allocates just 16 percent of its weight to Treasuries.

Why It's Important

Relative to standard core bond benchmarks, AGGY does take some added credit risk as a means of increasing yield and potentially total returns.

“While the fund does take greater credit risk than its parent benchmark, this risk is still moderate and is more representative of how active managers in its Morningstar Category invest,” said Morningstar.

Still, a little extra credit risk doesn't mean excessive credit risk nearly all of AGGY's almost 2,100 holdings are rated AAA, A or BBB. AGGY's selection universe only includes investment-grade bonds.

“To increase its return, the portfolio reweights the components of the Aggregate Index to emphasize the higher-yielding areas of the investment-grade market,” said Morninstar. “This dynamic approach allows the fund to shift its sector exposure (credit, securitized, and government) as sector fundamentals and investor appetites evolve.”

What's Next

Past performance is never a guarantee of future returns, but AGGY has performed admirably since coming to market.

“Despite its short history, this fund has produced a decent performance. From its July 2015 inception through May 2018, its annual return was 2.1 percent, which bested its category peer average,” according to Morningstar.

The research firm has a Bronze rating on AGGY.

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