Best Ultra Short Bond ETFs

In today's uncertain economic environment, it's more important than ever to consider investments that are risk-averse. Ultra short bond ETFs are one asset class that can provide investors with a steady stream of income while being considered less risky. According to MorningStar, ultra short bond ETFs reeled in nearly $14 billion in October 2023.

Ultra short bond ETFs invest in bonds with maturities of less than one year. They are less sensitive to interest rate changes than longer-term bond ETFs, making them a potentially good option for investors concerned about rising rates.

Best Ultra Short Bond ETFs Right Now

What are Ultra Short Bond ETFs?

Ultra short bond ETFs are exchange-traded funds (ETFs) that invest in a diversified portfolio of high-quality bonds with maturities of one year or less. These ETFs are designed to provide investors with current income while maintaining low price volatility as they are less exposed to interest rate risk.

Ultra short bond ETFs typically invest in a variety of short-term debt securities, including government bonds, investment-grade corporate bond, and asset-backed securities. These ETFs are designed to be less sensitive to interest rate changes than longer-term bond ETFs.

Benefits of Ultra Short Bond ETFs

• Lower interest rate risk compared to longer-duration bond ETFs: Ultra short bond ETFs have lower interest rate risk than longer-duration bond ETFs. As a result, they are less sensitive to changes in interest rates. In addition, Ultra short bond ETFs are seen as a safer asset for investors during periods of rising interest rates because they offer lower risk and moderate yields. 
• Potential for higher returns than traditional savings accounts or money market funds: They also have the potential for higher returns than traditional savings accounts or money market funds because they invest in a diversified portfolio of bonds that carry slightly more risk than traditional bond funds. Ultra short bond ETFs typically offer higher yields than savings accounts or money market funds.
• Flexibility in managing liquidity needs: Ultra short bond ETFs provide investors with flexibility in managing their liquidity needs as they are traded on exchanges like stocks. As a result, they can be easily bought and sold, which can make them a good option for investors who may need access to their cash in the short term.
• Lower expense ratios compared to actively managed short-term bond funds: Ultra short bond ETFs have lower expense ratios than actively managed short-term bond funds, meaning investors can keep more of their returns when they invest in ultra short bond ETFs.

Risks of Ultra Short Bond ETFs

• Interest rate risk: While ultra short bond ETFs are less sensitive to interest rate changes than longer-term bond ETFs, they still carry interest rate risk. As a result, the prices of ultra short bond ETFs may decline if interest rates rise. Consider all the risks before investing in an asset. 
• Credit risk: While ultra short bond ETFs generally invest in high-quality bonds, the credit risk is considered lower. However, there is still some risk that an issuer of a bond held could default.
• Liquidity risk: Even though ultra short bond ETFs are considered liquid, there is still some risk that the liquidity could dry up, especially if the market goes through stress. 
• Not guaranteed by the FDIC: Another risk to consider is that ultra short bond funds are not guaranteed or insured by the FDIC. 

Where to Invest in Ultra Short Bond ETFs

Various brokers offer you the ability to invest in ultra short bond ETFs. However, not all brokers are created equal, and it’s essential to choose one that you can trust. The table below lists trusted brokers that allow you to invest in ultra short bond ETFs on their platform.

Factors to Consider When Choosing Ultra Short Bond ETFs

As with any investment, there are various factors to consider when deciding to part with your hard-earned cash. 

Investment Objective and Strategy of the ETF

When investing in ultra short bond ETFs, consider the investment objective and strategy of the ETF.

By understanding the investment objective and strategy of an ultra short bond ETF, investors can choose the one that meets their investment goals and risk tolerance. For example, an investor who is looking for capital preservation may choose an ETF that invests in safer government bonds.

Portfolio Composition and Holdings

When investing in ultra short bond ETFs, assess the portfolio composition and holdings of the ETF to better understand the ETF's risk and return profile, evaluate the quality of the ETF's portfolio and compare ETFs.

In addition, the portfolio composition of an ETF should be able to tell you what types of bonds the ETF invests in and how it is weighted.

Yield and Expense Ratios

Yield and expense ratios are two important factors to consider, with yield being the annual income an investor can expect to receive from the investment. The yield of an ultra short bond ETF is determined by the average yield of the bonds held by the ETF.

The expense ratio is the percentage of an ETF's assets used to cover the costs of managing the ETF. It indicates how much of your investment in an ETF will be deducted annually as fees.

Credit Quality and Risk Ratings

Credit quality measures the likelihood that a bond issuer will default on its debt obligations. Risk ratings are assigned to bonds by credit rating agencies and help investors understand the risk associated with the bonds.

Considering the credit quality and risk ratings of an ultra short bond ETF is an integral part of choosing the right fund, as you can assess the potential risks and the quality of the bonds held in the fund. Evaluating these factors can help investors diversify their portfolios.

Liquidity and Trading Volume

Liquidity and trading volume are important to consider as you buy and sell shares of an ETF. ETFs with high liquidity are generally easier to buy and sell. A liquid ultra short bond ETF will help reduce the impact of bid-ask spreads, and ETFs with high trading volume typically have tighter bid-ask spreads.

While ultra short bond ETFs are usually liquid, there is still some risk that liquidity could dry up.

An Investment to Consider to Protect Against Interest Rate Risk

Ultra short bond ETFs also have potential pitfalls. However, they may provide investors with protection against interest rate risk and offer a return via a steadier income stream. They may not have as high of a yield as longer-duration bonds, but they still provide positive attributes for investors to take into consideration. 

Frequently Asked Questions