The problem is that all of this is very confusing and somewhat difficult to do for the average Joe. It takes a lot of knowledge to hedge a bond portfolio with swaps and options. But luckily, the ETF boom has created some easy-to-purchase options designed to hedge away duration risk.
These funds either buy derivatives to hedge away the risk or create a portfolio of long/short bonds to reduce losses, essentially doing the heavy lifting for you. And with many of them, they can reduce duration significantly while still maintaining a high yield. Interest risk is removed, while credit risk remains. And they do so, for lower expenses than you or I could do on our own.
And the proof is in the pudding. For example, the ProShares High Yield—Interest Rate Hedged ETF (HYHG), which owns junk bonds while hedging duration, only fell by 1.69% last year. The investment grade-focused iShares Interest Rate Hedged Corporate Bond ETF (LQDH) only dipped by 1.33%. That’s far better than its respective sector average last year. Better still, both offer compelling yields of 8.04% and 3.21%, respectively: in line with their sector averages.
Now, interest rate hedged ETFs aren’t a panacea. As rates fall, returns for the funds would be less than their non-hedged counterparts. But given the Fed’s continued stance and outlook about the pace of hikes still going up, they could make for a good bet.
And with funds available from many top ETF providers that cover most segments of the bond market, including the benchmark aggregate bond index, it pays to add some exposure to a hedged ETf for the current environment. It could save your portfolio from losses and still offer plenty of income.
Take a look at our recently launched Model Portfolios to see how you can rebalance your portfolio.