Bond ETFs: Don’t take on greater risk than the Dex Universe

The MoneyLetter, MPL Communications Inc.
133 Richmond St.W., Toronto, ON, M5H 3M8. 1-800-804-8846

 
If you want to include only exchange-traded funds for your portfolio, we’ve suggested in the past that you keep it simple. You needn’t make it much more complicated than the three-pack ETF portfolio we recommended in the October/First Report of The MoneyLetter “Make life easy with a three-pack ETF portfolio.” And if you choose to invest in a bond ETF rather than individual bonds or GICs, we wouldn’t select a riskier fund than iShares DEX Universe Bond Index Fund (TSX-XBB).

This ETF seeks to provide income by replicating, to the extent possible, the performance of the DEX Universe Bond Index, less expenses. The Index consists of a broadly diversified selection of investment-grade Government of Canada, provincial, corporate and municipal bonds issued domestically in Canada and denominated in Canadian dollars.

About 89 per cent of the Index’s weighting is made up of bond issues with a rating of ‘A’ or better. Nearly 10 per cent of the weighting is in bonds rated triple ‘BBB’. There are no junk bonds in this ETF.

Safety, but lower yield

In return for these relatively safe bond issues, you cannot expect a high yield. In fact, the ETF’s weighted average yield to maturity, which gives you a rough idea of the yield you can expect, is 2.65 per cent.

And though the ETF’s high-quality bond issues provide a measure of safety, there’s still interest-rate risk.

If interest rates rise by about one per cent, say, then you would expect the ETF’s value to drop by close to seven per cent, which is roughly equal to its weighted average duration of 6.66.

If such a decline is too steep for you, then consider a bond ETF with a shorter average duration. Your options here include iShares DEX Short Bond Index Fund (TSX-XSB).

Its weighted average duration is 2.7, which is much more comfortable than 6.6. In return for this, you’ll have to accept a substantially lower average yield to maturity of 1.7 per cent.

Another alternative is Vanguard Canadian Short-Term Corporate Bond Index ETF (TSX-VSC).

Because it’s made up of non-government bond issues it’s slightly riskier. But its weighted average yield to maturity is 2.2 and its weighted average duration is 2.8. Of course, you could combine some or all of these ETFs in proportions to suit your risk tolerance.

* Our Advice: Choose bond ETFs that are no riskier than iShares DEX Universe Bond Index Fund.

 

The MoneyLetter, MPL Communications Inc.
133 Richmond St.W., Toronto, ON, M5H 3M8. 1-800-804-8846

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