Bond ETFs: everything you need to know about this product combining diversification and stability

In this article, we will explore bond ETFs in detail, including their different types, advantages, and how they react to interest rate fluctuations.

Exchange Traded Funds (ETFs) have become an essential investment tool, particularly for those looking to diversify their portfolios at a lower cost. Among them, bond ETFs are particularly attractive to investors seeking stability and returns. But how do they work? Which bond ETF should you choose depending on the market? And most importantly, how do interest rates impact their performance?

What is a bond ETF and why consider it?

A bond ETF is an exchange-traded index fund that tracks the performance of a basket of bonds. But before explaining how it works, let’s go back to the basics: what is a bond?

A bond is a debt security issued by a government or a company to borrow money from investors. In return, the issuer commits to paying regular interest (known as coupons) and repaying the principal at maturity. Bonds are considered more stable investments than stocks, though they remain subject to interest rate fluctuations and the issuer’s creditworthiness.

A bond ETF allows investors to access a wide range of bonds without having to purchase each security individually. It offers immediate diversification, lower fees, and increased liquidity, making it an attractive option for those looking to invest in bonds without the hassle of managing them individually.

Why invest in a bond ETF?

• Automatic diversification: a single ETF includes multiple bonds, reducing risk.
• Accessibility and liquidity: unlike traditional bonds, which sometimes require large amounts and have low liquidity, bond ETFs are easily traded on the stock exchange.
• Lower costs: they often have lower fees than traditional bond funds.
• Adaptability: suitable for different investor profiles.

However, not all bond ETFs are created equal. Let’s look at the main categories. 

The different types of bond ETFs

Bond ETFs are generally classified based on the types of bonds they hold. Here are the main categories: 

1. Government bond ETFs

Government bonds are debt securities issued by governments to finance their expenditures. They are considered safe investments, especially those issued by economically stable countries (United States, Germany, France, etc.). 

Advantages:

• Less risky than corporate bonds. 
• ​​​​Often used as a safe haven in times of uncertainty.  Examples: an ETF tracking U.S. Treasuries or German Bunds. 

Examples:

• An ETF tracking the US Treasuries or German Bunds index.

2. Corporate bond ETFs

Corporate bonds are issued by companies to finance their growth. They often offer higher returns than government bonds but also come with greater risk.

Two main categories:  

• Investment-grade bonds: issued by financially strong companies with a low risk of default (e.g., Apple, Microsoft).
• High-yield bonds ("junk bonds"): riskier but offering more attractive returns. 

Why invest? 

• Potentially higher returns than government bonds. 
• Useful for diversifying a portfolio during economic growth. 

3. Mixed bond ETFs

Some ETFs combine different types of bonds (government and corporate) to offer a balance between risk and return.

Which bond ETF to choose and in what proportion?

The choice of a bond ETF depends on several factors:

1. Your investor profile

• Conservative investor: opt for a long-term government bond ETF, which provides greater stability and is less subject to market fluctuations.
• Balanced investor: a mix of government bonds and equity ETFs offers moderate returns while managing risk.
• Dynamic investor: favor a higher proportion of stocks, with a small share of bond ETFs to limit volatility in case of a crisis.

Not sure about your profile? Schedule an appointment with an advisor by completing a simulation on our website.

2. Market conditions

• Low or declining interest rates: favor long-term bonds, which increase in value when rates drop.
• Rising interest rates: choose short-term bonds, as they are less sensitive to rate changes.
• During a crisis: government bonds from stable countries are often a safe haven against market instability.

At Easyvest, we select a long-term bond ETF to enhance and secure returns regardless of market and interest rate fluctuations.

3. ETF composition

Not all bond ETFs follow the same index. Some consist solely of government bonds, others of corporate bonds, and some mix both.

Before investing, check:

• The proportion of government vs. corporate bonds, based on your strategy.
• Bond quality: investment-grade (lower risk) or high-yield (higher risk but with better return potential).

4. Distribution method: accumulation or distribution

Bond ETFs can function in two ways: 

• Accumulation: interest is reinvested directly in the fund. Ideal for long-term capital growth, benefiting from compound interest.
• Distribution: interest is regularly paid out to investors. Suitable for those seeking recurring income.

5. ETF currency

If you invest in euros, choosing a euro-denominated bond ETF can help avoid currency risk.

At Easyvest, we use a eurozone government bond ETF, offering several advantages:

• Avoid exposure to U.S. dollar fluctuations.
• Reduce volatility related to currency variations.
• Diversify the portfolio by moving away from the U.S. market.

6. Fund costs

The Total Expense Ratio (TER) represents the annual fund management fees charged by the issuer. A low TER helps optimize net returns over the long term.

Always compare fees between different ETFs, as high costs can significantly reduce your performance.

The impact of interest rates on bond ETFs 

Interest rates directly influence bond prices and, therefore, bond ETFs. 

1. Understanding the inverse relationship between interest rates and bond prices 

• When interest rates rise, newly issued bonds offer higher yields, making older bonds (with lower rates) less attractive. Their prices then decline. 
• Conversely, when rates fall, older bonds become more valuable, increasing their price. 

2. How to adjust your strategy based on interest rates? 

If rates are low and may rise: 

• Prefer short-term bond ETFs, which are less sensitive to rate increases. 
• Consider variable-rate bond ETFs that adjust their yield to interest rate changes. 

If rates are high and may fall: 

• Invest in long-term bond ETFs to benefit from capital appreciation. 

In uncertain times: 

• Diversify between government bonds and equity ETFs to mitigate risk. 

Comparison of different bond ETFs

Choosing the right bond ETF depends on several factors, including the origin of the bonds, their type (government, corporate, mixed), and management fees. 

To help you make an informed decision, here is a summary table of six bond ETFs covering different investment strategies. Whether you are looking for the security of government bonds, the yield of corporate bonds, or a balance between the two, this comparison will help you find the ETF that best suits your profile. 

ETF name	Region	Fees (TER)	Main composition	Number of bonds
iShares Core Global Govt Bond UCITS ETF (AGGH)	Global	0.10%	Government bonds from developed countries (US, Europe, Japan)	1,500+
Amundi Euro Government Bond 7-10Y UCITS ETF Acc	Eurozone	0.15%	Long-term eurozone government bonds	50+
Vanguard USD Corporate Bond UCITS ETF (VUCP)	U.S.	0.09%	Investment-grade U.S. corporate bonds	5,000+
SPDR Bloomberg Euro High Yield Bond UCITS ETF (SYBJ)	Europe	0.40%	European high-yield corporate bonds	500+
iShares € Govt Bond 3-5yr UCITS ETF	Eurozone	0,15 %	European medium-term government bonds (3-5 years)	150+

Conclusion: bond ETFs a key tool for portfolio diversification 

Bond ETFs are an excellent way to invest in bonds while benefiting from the simplicity and diversification of index funds. Their selection depends on the investor’s profile and market conditions, particularly interest rate fluctuations. 

Key takeaways: 

• They offer automatic diversification and lower fees. 
• They include government, corporate, and mixed bonds. 
• Choosing the right ETF depends on multiple factors. 
• Interest rates have a significant impact on the performance and price of bond ETFs. 

At Easyvest, we advocate for a balanced approach, combining equity ETFs with government bond ETFs. 

Why this mix? 

• Equity ETFs provide long-term growth potential, ideal for boosting portfolio returns. 
• Government bond ETFs, especially those focused on European government bonds, add valuable stability. This choice helps reduce volatility, avoids currency risk for Belgian investors, and diversifies away from the U.S. market. 

In summary: bond ETFs are an excellent diversification tool, but they are even more effective when combined with equity ETFs. By incorporating a European government bond ETF, we enhance portfolio stability while mitigating risks related to currency fluctuations and foreign markets. 

Want to invest wisely? Easyvest helps you build a diversified portfolio tailored to your profile.