Ultrashort Bond ETF
An ultrashort bond ETF is an exchange-traded fund that invests in fixed-income securities with very short durations—typically less than one year. These ETFs are designed to offer a higher yield than cash while maintaining low interest rate risk and high liquidity. Ultrashort bond ETFs can be useful to park idle cash. They typically distribute monthly dividends from coupons or trading gains.
Ultrashort bond ETFs invest in investment-grade securities to reduce or avoid credit risk. Some ETFs may use hedging strategies, such as interest rate hedging and credit risk hedging.
Those with more sophisticated hedging strategies may have a higher expense ratio, which is the annual fee that fund managers charge to cover operating expenses. The expense ratio is expressed as a percentage of assets under management (AUM) and is automatically deducted from the fund’s returns.
There are a lot of ultrashort bond ETFs to choose from. A simple screening on Koyfin results in 73 of them.
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Each investor may have a different risk/reward profile depending on their own circumstances. Consider these factors before choosing an ETF: dividend yield, portfolio holdings, expense ratio, and AUM.
Ultrashort bond ETFs invest in short-term fixed-income securities, so their returns—primarily reflected in their dividend yields—should closely track the yields of short-term U.S. Treasuries (those maturing in less than one year). Currently, short-term U.S. Treasuries yield approximately 4-4.5%.
In that sense, ETFs with yields higher than 4.5% may be investing in riskier instruments, such as corporate bonds or derivatives. Conversely, those with yields lower than 4% may not be managing their portfolios efficiently.
Take, for example, the Simplify Treasury Income ETF (BUCK). It has the highest dividend yield, a whopping 8.2%, among the ultrashort bond ETFs we screened. However, its portfolio holdings include long and short positions in certain futures options. While BUCK offers a higher dividend yield than its peers, it also comes with higher risk.
The age of an ETF also matters. Those with a longer history allow us to see if their portfolio strategy has stood the test of time. Keep in mind that fixed-income strategies follow the interest rate cycle, which can last up to 10 years. In other words, ultrashort bond ETFs with less than 10 years of history have not yet been fully tested through a complete cycle.
BUCK, our example, while offering a very attractive dividend yield, has only been around for two years (inception date: October 27, 2022). It has not been time-tested, which may explain its relatively small AUM of $290 million.
What we like
At Christmas Corporation, we use the iShares 0-3 Month Treasury ETF (SGOV) to park clients’ idle money. SGOV invests in Treasuries with maturities of three months or less. No wonder SGOV’s dividend yield is always closely aligned with 0-3 month Treasury yields. Currently, SGOV has a 4.59% dividend yield, just slightly higher than the shortest Treasury yield.
SGOV also does not engage in riskier instruments such as corporate bonds or derivatives, making it a straightforward way to own U.S. Treasuries.
SGOV’s inception date is May 2020, meaning it has been around for less than 10 years. However, we still favor it due to its simple strategy—holding 0-3 month Treasuries.
To determine whether SGOV’s portfolio strategy is time-tested, we compare it with the SPDR Bloomberg 1-3 Month T-Bill ETF (BIL). BIL holds Treasuries with 1-3 month maturities and has been listed since May 2007. Since SGOV and BIL have almost identical strategies (with BIL holding slightly longer maturities), we can reasonably assume that SGOV would behave similarly to BIL throughout different interest rate cycles.
Since our goal is to park idle cash, we prioritize safety over yield. Holding Treasuries with almost zero days to maturity (0-3 months) largely protects us from unfavorable interest rate movements. Please note that SGOV’s portfolio consist of U.S. Treasuries, the most credit-risk-free assets in the world.
By: Ivan Indrapermana, CFA — Christmas Corporation