As measured by the widely followed Markit iBoxx USD Liquid Investment Grade Index, investment-grade corporate bonds aren’t doing much to thrill fixed income investors this year. But yields on such debt are attractive. And that’s enough to keep many market participants engaged.
However, some bond experts note that credit spreads, which illustrate the risk/reward between corporates and Treasurys, are narrowing. That implies corporate bonds are expensive. Narrowing credit spreads could highlight opportunity, with unique approaches to the investment-grade corporate bond space. That includes the WisdomTree U.S. Short Term Corporate Bond Fund (SFIG).
SFIG tracks the WisdomTree U.S. Short Term Corporate Bond Index. That index is outpacing the Markit iBoxx USD Liquid Investment Grade Index on a year-to-date basis. Some of that outperformance is attributable to SFIG’s duration of just 2.40 years. But the fundamental weighting of the ETF’s benchmark shouldn’t be overlooked.
Corporates Being Pricey Not Indictment of SFIG
It should not be ignored that credit spreads have narrowed. But it’s also worth noting that scenario isn’t an indictment of corporate bonds as a whole. Nor does it imply upside is limited for SFIG. In fact, a case can be made that SFIG could shine in the current climate for corporate debt.
One reason that claim can be supported is that the current scenario facing corporate bonds isn’t unusual. That implies the asset class and ETFs such as SFIG aren’t overly risky simply because credit spreads have narrowed.
“To listen to some of the current narrative on the subject, one could be forgiven for thinking the current readings are an unusual development,” noted Kevin Flanagan, WisdomTree’s head of fixed income strategy. “However, as the above graph illustrates, IG and HY spreads are definitely not in uncharted territory. In fact, there have been a variety of periods in the past when corporates have traded at these levels, and in some cases, even lower.”
It should also be noted that SFIG’s index is designed to identify corporate bonds with attractive fundamentals and compelling income opportunities. Embracing those factors might come at the expense of value. But reduced default risk and dependable income should serve long-term investors well.
Potential Category Winner
The U.S. economy appears to be on solid footing, and fundamentals are mostly sturdy across the investment-grade corporate universe. So SFIG could emerge as one of the winners in this ETF category in the second half of the year.
“In fact, using history as our guide, as long as the economy doesn’t fall of the cliff anytime in the months ahead, IG and HY spreads could continue to trade in their present respective ranges, but we would emphasize a quality-screened approach. In fact, if the fundamental backdrop can be maintained, one could potentially argue that a notable re-widening in spreads could be viewed as a buying opportunity, as we saw in pre-Covid trading,” concluded Flanagan.
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