iShares iBoxx $ Investment Grade Corporate Bond ETF

LQD

Market cap $31.2B

The iShares iBoxx $ Investment Grade Corporate Bond ETF is not the lowest expense ratio option to target this particular duration. In addition to that, we are not terribly keen on long to very-long duration bonds. One of the issues we have, in addition to particularly low compensation for credit risk at the moment, is the low yield spread.

Investors have piled back into exchange-traded funds focused on investment-grade corporate bonds, amid a surging supply of new debt in that part of the fixed-income market.

As the Federal Reserve approaches next week's policy meeting, Wall Street is doing the usual pas de deux around interest rates. But this time, there is a disruptor to the traditional monetary policy logic: the unstoppable wave of ETF flows.

We think higher credit spreads are probable to occur and that the iShares iBoxx $ Investment could face residual backlash after higher yield bonds, especially given the vehicle's sector concentration. Unsecured bond exposure heightens risk due to higher loss given default. Moreover, lower rates are anticipated, which could trigger call risk and/or reinvestment risk. An effective duration of 7.99 can lead to upside if interest rates settle lower. That said, dislocations usually occur, where duration turns negative in stressed economic environments.

Insurance against Fed rate hikes with “rate-hedged” ETFs doesn't come cheap.

Rising tariff turmoil has sparked a run from credit-sensitive instruments, with escalating trade tensions threatening economic stability. Wednesday's GDP print stoked recessionary fears when it showed the U.S. economy contracted for the first time since early 2022.

The volatile market environment due to the trade war can create opportunities for long-term investors, especially in closed-end funds (CEFs). First Trust High Yield Opportunities 2027 Term Fund (FTHY) and Blackstone Strategic Credit 2027 Term Fund (BGB) offer high-yield exposure with potential benefits from floating-rate investments. Both FTHY and BGB have seen distribution cuts due to interest rate changes, but their discounts have widened, presenting potential buying opportunities.

We think the Fed has time to assess the impact of tariffs, and we expect it to wait to cut rates until the data show that tariffs are impacting the real economy. So far, there are no signs of recession in the hard data. The tariff pause offers the possibility to avoid worst-case economic scenarios before the damage is crystalized. We believe technical factors will continue to drive market dislocations in spreads and sectors, and that active managers can navigate this more effectively.

The LQD ETF isn't offering enough extra yield compared to safer US government bonds to be worth the risk. Credit spreads remain too tight, in my opinion. This presents a risk for the current holders of corporate bonds in case of an economic slowdown in the US. I maintain my "Sell" rating on the LQD ETF.

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