Bond ladders—a portfolio built on individual bonds or funds with regular maturities where the principal is then reinvested in longer-term holdings—may be an appealing approach in the current market, contends an article in Barron’s. If the Fed pushes up yields in the short term in the first half of 2023, as expected, that would give a boost to laddered portfolios as the principal will come in at higher market yields, allowing more to reinvest. And with 6-month Treasury yields are currently at 4.7%, short-term yields look very attractive compared to the 10-year yield, at 3.7%.
Ladders don’t need to stretch out too far; for a portfolio that extends for 3 years, a third of the portfolio matures every year. And longer-term bonds, which don’t offer as much yield, also increases volatility and risk of duration (the sensitivity a bond has to rate changes). A ladder built from ETFs is simpler than one constructed out of individual bonds, such as iShares iBonds ETFs and Invesco’s BulletShares suites. The funds pay out interest on a regular basis and all reach their maturity in a certain year. Constructing a portfolio with funds such as these alongside other bond categories, such as Treasury debt, corporate, municipal, high-yield, and emerging market could offer attractive returns for investors, the article maintains. However, laddering your portfolio won’t stem losses if interest rates suddenly skyrocket, though hanging onto an ETF until it matures could be one way to navigate around losses.
The key to building a successful ladder is to keep it simple, such as an equally-weighted ladder with strong corporate-bond ETFs that mature over the next 3 years. Investors could use the proceeds from the ETF that matures in 2023 and put it back into an ETF that expires in 2026, the article details. And investors might want to buy bonds with a longer maturity horizon, to hedge against yields if they decline. One other risk to a laddered bond portfolio is “callable bonds,” though they’re generally found in municipal and high-yield “junk” areas. Callable bond issuers are allowed to redeem the securities on a set date, which they would likely opt to do if rates decline. In that case, the holders of those bonds would risk their reinvestment. Focusing on Treasury ETFs would avoid this risk, though they are extremely rate-sensitive.
Bond ladders are particularly well-suited to investors who don’t panic at market volatility, and who care more about income and the security of their principal. The article highlights two bond ETFs that will mature over the next few years with very attractive yields: the Invesco BulletShares 20223 Corporate Bond ETF and the Invesco BulletShares 2025 High-Yield Corporate Bond ETF, with yields of 4.88% and 8.6%, respectively. As long as investors don’t sell off before their ETFs expire, they’ll be able to climb their bond ladder to a nice recoupment of their capital.