IBCE (the iSharesBond 2023 Corporate ex-Financials Term ETF) began trading on Friday, April 19. The availability of this fund significantly changed the CD and corporate bond ETF (exchange-traded fund) investing landscape. Now that this fund has been introduced, what are the best CD and investment-grade corporate bond ETF purchases? This article will answer this question.
What makes IBCE important is that it is a TMTC (to-maturity-then-cash) fund and it has a years-to-maturity of about 10 years. TMTC funds hold bonds to maturity and, then, provide the principal in cash to shareholders. The vast majority of fixed-income funds are currently not good investments because they do not do this. Interest rates are very likely to increase a substantial amount in the next few years; and, when they do, non-TMTC funds will experience related share price declines.
Only Guggenheim Investments and iShares offer TMTC ETFs. I am not aware of anyone offering a TMTC mutual fund. Both Guggenheim and iShares offer corporate bond TMTC ETFs. Guggenheim offers both investment-grade and high-yield corporate bond TMTC ETFs. iShares only offers investment-grade corporate bond TMTC ETFs. Only iShares offers municipal bond TMTC ETFs, and these ETFs mature no later than about five years from now. There are no TMTC ETFs for other kinds of fixed-income investments.
IBCE’s about-10-years-to-maturity is important because, in recent times at least, bonds only compete well with well-chosen CDs when the years to maturity is significantly greater than 5 years. Guggenheim’s BSCK (the Guggenheim BulletShares 2020 [Investment-Grade] Corporate Bond ETF) was well-competitive with well-chosen CDs for a while; but, with BSCK getting closer to its end-of-2020 maturity and corporate bond interest rates being as low as they now are, BSCK is no longer well-competitive. IBCE appears to be the only investment-grade fixed-income fund currently available that is well-competitive with well-chosen CDs. Let us take a closer look, and we will see why.
In the table below, the currently available TMTC investment-grade corporate bond ETFs are listed, along with CDs currently offered by the Melrose Credit Union. LQD (the iShares Investment-Grade Corporate Bond ETF), the most widely held fixed-income ETF, is also listed, even though it is not a TMTC fund, for the sake of comparison.
Melrose was used because (1) its CDs are available to everyone in the U.S., (2) there are no more-cumbersome requirements for opening an account or buying a CD, (3) in the last year or so, at least, it has offered good, and sometimes the best, CD interest rates, and (4) I did a check on Melrose last year and it appeared to be sound. Even though Melrose was used, there are, in some cases, better generally available, no-more-cumbersome-requirements CDs being offered. For example, the CDs link on LearnBonds currently displays better 1-year rates and the Mountain America Credit Union is currently offering a 5-year CD paying 2.00%.
The data in the table is as of 4/19/13. Items are listed in years-to-maturity order, with the shorter years-to-maturity items listed first. The Guggenheim, Melrose, and LQD Estimated Annual Yields were obtained from the fund or CD provider’s website. The non-LQD iShares Estimated Annual Yields were derived using the end-of-March yields for the associated indexes as reported by iShares. The Estimated Annual Default/Downgrade Losses percentages were derived based on a couple of corporate bond default loss analyses I did within the last seven months. The iShares TMTC ETF percentages are a little lower than the LQD and Guggenheim ETF percentages because the iShares TMTC ETF bond portfolios are a little higher in quality, as you can see in viewing the data in the Median S&P Grade column. The iShares TMTC ETFs target an initial weighted average rating of A2. Essentially, they do this by limiting the number of Baa bonds. (A2 and Baa are the Moody’s equivalents of the S&P and Fitch A [without a + or -] and BBB ratings.)
The Estimated Adjusted Annual Yield is simply the Estimated Annual Yield minus the Annual Expense Ratio minus Estimated Annual Default/Downgrade Losses. The Estimated Years to Mature and Estimated Adjusted Annual Yield columns are the ones you should focus on for comparing the different investment possibilities. Bold font was used to highlight the investments that are currently worth considering.
The Melrose Estimated Annual Default/Downgrade Losses of 0% assume you do not place more than $250,000 in a Melrose non-IRA or IRA account and, hence, your deposits are fully NCUA (National Credit Union Administration) insured. Since the ETFs listed are all investment-grade, defaults are rather unlikely. However, sometimes bonds will be sold at relatively unattractive prices due to ratings downgrades to a junk status.
The TMTC ETF Estimated Annual Yields are for the current bond portfolio of each fund. Each bond portfolio matures over the course of one year. In the last year of each fund’s existence, a conversion from longer-term corporate bonds to shorter-term securities takes place. This enables each fund to have nothing but cash on hand on or near the projected fund maturity date. For the sake of simplicity, the TMTC ETF Estimated Annual Yields assume shorter-term interest rates in the final year of each fund’s existence will match the current Estimated Annual Yield. This assumption will never be perfectly accurate and may be largely inaccurate, at least in some cases.
|ETF or CD||Provider||Mature Date||Est. Years to Mature||Est. Ann. Yield||Ann. Exp. Ratio||Est. Ann. Default / Down- grade Losses||Est. Adj. Ann. Yield||Med. S&P Grade|
|1-Year CD||Melrose CU||4/19/14||1.00||0.95%||0.00%||0.00%||0.95%||NA|
|2-Year CD||Melrose CU||4/19/15||2.00||1.21%||0.00%||0.00%||1.21%||NA|
|3-Year CD||Melrose CU||04/19/16||3.00||1.46%||0.00%||0.00%||1.46%||NA|
|4-Year CD||Melrose CU||04/19/17||4.00||1.71%||0.00%||0.00%||1.71%||NA|
|5-Year CD||Melrose CU||04/19/18||5.00||1.96%||0.00%||0.00%||1.96%||NA|
The CDs and IBCE are worth considering. I think the 5-year CD is a better investment than IBCE. For this to be true, you need to get a return of more than about 3.1% on the CD principal in the 4.95 years following the maturing of the CD. I think you will be able to do this; but, of course, there is no guarantee this is so. Even if the 5-year CD is a better investment, IBCE has value in that it enables laddering with a relatively decent return. The attractive 0.10% expense ratio helps it to do so.
Per BlackRock, Inc., who provides iShares: “While relevant to all investors, the products (IBCE, IBCD, IBCC, and IBCB) are expected to appeal to institutional clients such as bank treasurers.” Sometimes, we, as individual investors, get better rates than financial institutions. For instance, Melrose’s CD rates for financial institutions are exactly or about 0.5% lower than the rates we can get. Also, wealthy individual investors need to spread their CD money across numerous financial institutions to be fully FDIC and/or NCUA insured. IBCE may be more attractive to financial institutions and wealthy individual investors than it is to ordinary individual investors. Furthermore, TMTC corporate bond ETFs will be more attractive when corporate bond interest rates increase some.
The iShares TMTC corporate bond ETFs are ex-financial funds. The fund holdings should primarily include industrial company bonds and utility company bonds, as, per BlackRock, the associated indexes do. IBCE’s top ten holdings are bonds from General Electric, Oracle, United Technologies, Chevron, Verizon Communications, America Movil, Anheuser-Busch InBev Worldwide, Novartis Capital, Intel, and AT&T. 56.4% of IBCE’s bonds are rated A or A- by S&P.
It appears IBCE will be difficult to buy at a good price, at least for a while. On Friday, the fund traded at $99.97 per share. The NAV finished the day at $99.53. On Monday, the fund traded at $100 per share. The NAV finished the day at $99.61. The fund appears to be trading at a premium of about 0.43%. Fixed-income ETFs usually trade at a premium, but not at a premium this high. In some cases, it can and does get a lot worse though. I think the only seller now is an “authorized participant(s)” who bought “creation units” and is selling shares from these units to investors at a profit.
We should commend iShares for offering a series of TMTC corporate bond ETFs, offering one TMTC corporate bond ETF with nearly 10 years to maturity, and having a low expense ratio for each fund. In so doing, iShares improved the fixed-income fund world for investors―in a way in which it very much needed improvement. What like improvement is next? It may come from Guggenheim.
On April 9, Guggenheim filed a prospectus with the SEC that will become effective on June 23. The prospectus was for TMTC investment-grade corporate bond ETFs with bonds maturing in each of 2022, 2023, 2024, and 2025. If launched this year, the 2025 fund will have a years-to-maturity of greater than 12. Particularly if Guggenheim lowers its planned expense ratios from 0.24% to something closer to the iShares TMTC corporate bond ETF expense ratios of 0.10%, the fixed-income fund world can improve even more just based on what is already in the pipeline.