Credit ETFs are exchange-traded funds that invest in bonds or fixed-income securities. A best ETF portfolio includes a mix of equity and credit to balance capital growth and income. It can be challenging for Australian investors to access to invest in bonds directly. Credit ETFs provide ease of access to the Australian bond market and, unlike dividend stocks provides cashflow without taking equity risk.
Most credit ETFs provide a consistent income stream from the interest from the underlying bond investments. Still, the total long-term credit ETF comprises a mix of interest income and capital growth.
Typically bonds are issued with a fixed coupon, which implies all of the future cash flow is known during the investment period. Similarly, the value of bonds in the exchange-traded fund will change as current interest rates, and future interest rate expectations change.
There is a wide range of credit ETFs on the ASX, and we have highlighted the main categories of these funds.
ASX Credit ETF List
Types of Credit ETFs
Our ASX ETF list outlines all of the credit ETFs listed on the Australian Stock Exchange. The Australian credit market is predominately made up of two main segments, government (treasuries), and corporate credit. Furthermore in corporate credit can be separated into investment-grade and junk components.
In turn, the credit exchange-traded funds available are also split along government credit and corporate credit ETFs. Within the corporate credit ETFs, there are numerous investment-grade credit ETFs but limited high yield credit ETFs.
Government Bond ETF (VAF vs IAF)
The largest ASX credit ETF are Australian government bond ETFs, which only invest in credits of Australian sovereign or sovereign related entities. The mandate covers the Australian federal, state governments’ debt and stated backed entities like utilities and operating businesses owned by the government.
Depending on the period, the biggest credit ETF is Vanguard Australian Fixed Interest Index ETF (ASX VAF) or iShares Core Composite Bond ETF (ASX IAF).
iShares Core Composite Bond ETF has the lowest management fee of 0.15%, while Vanguard Australian Fixed Interest Index ETF charges a management fee of 0.2%.
These funds make up some of the cheapest ETFs in the credit space and provide a low-cost option for investors looking to add credit exposure to the investment portfolio.
ASX High Yield ETF
High yield or junk bonds in the credit market refer to the bonds of companies rated below investment grade. Given the nature of the Australian credit market in which the major Australian banks still dominate it, there is no exchange-traded fund that invests just in Australian high yield bonds.
There is one exchange-traded fund that trades on a high yield, which takes a different kind of credit risk in exchange for a higher return to investment grade bonds.
BetaShares Active Australian Hybrids Fund (ASX HBRB) is an active ETF that invests in the Australian banks’ hybrid securities, and the investment manager maintains discretion to manage the portfolio as it sees fit.
HBRB is slightly different from typical ETFs known for being passive investment vehicles that aim to replicate the underlying investment index’s performance.
Hybrid securities present a mix of equity and debt characteristics and sits between equity and debt in the capital stack. As a result of the higher risk profile of the capital stack position, hybrids yields are higher than corporate credit. Australian banks are the largest issuance of hybrid bonds, and therefore, HBRB almost exclusively invests in bank hybrids. For those that are comfortable holding bank hybrids, then HBRB presents a diversified portfolio. In addition to the high yield nature of the hybrids, the distributions are franked dividends.
As the fund is actively managed and a 0.45% management fee and 0.10% admin expenses. Betashares also charges 15.5% of performance fees on the outperformance (the Solactive Australian Hybrid Securities Index).
Hybrids should have a lower risk profile than high yield equity ETFs like VHY ASX.
Floating Rate Bond ETF
An interesting aspect of investing in a credit ETF is that the fund’s Net Asset Value will change based on interest rate expectations. The principal of a floating rate note is anchored at the principal value of the bond. An ETF that just invest in floating-rate notes or bonds means the value of the NTA value will not change as much as traditional credit funds.
BetaShares Australian Bank Senior Floating Rate Bond ETF (ASX QPON), as the name suggests, invest in floating-rate bonds with a sole focus on the bonds issued by the big 4 Australian banks, which will make up 80% of the fund and 20% from the other smaller Australian banks. Betashares charges 0.22% on the funds under management.
VanEck Vectors Australian Floating Rate ETF (ASX FLOT) has a wider remit that invests in the debt of the four largest banks and the foreign banks debt denominated in Australian dollars, other lending institutions and Australian listed property trusts (A-REITs). VanEck has a similar fee structure to ASX QPON of 0.22% management fees.
International Bond ETF
iShares Core Global Corporate Bond (AUD Hedged) ETF (ASX IHCB) is an investment-grade credit ETF with international exposure. The pricing and, in turn, the return of bonds are based on the interest rate curve of the denominated currency. Therefore the returns of the bonds denominated in AUD, EUR and USD will differ based on the interest rate in the respective currency. Investing in an ETF that only one’s bonds in a single currency means the credit exposure is concentrated in a specific market. For some investors, it pays to diversify the exposure across multiple markets, eliminating some interest rate and income risk (ignoring the issue of the positive or negative cost of carry). The hedged nature of the fund means investors in the ETF are taking limited foreign currency risks.