Bond ETFs: ‘Inflation is the dominant topic right now,’ strategist says

BlackRock Head of U.S. Bond ETFs Steve Laipply breaks down the acceleration in demand for bond ETFs as investors seek places to hedge against inflation.

Video transcript

ALEXIS CHRISTOFOROUS: It's time for our "ETF Report" brought to you by Invesco QQQ. And focus now on bond ETFs. We're seeing lots of folks interested in that sector, especially as they try to find a hedge for higher inflation. Here to discuss it all is Steve Laipply. He is BlackRock Head of US bond ETFs. So, Steve, thanks for being with us. Just first off, give us a feel for what inflows and outflows regarding bond ETFs has been like here in the fourth quarter.

STEVE LAIPPLY: Yeah, so it's been pretty consistent. We have seen a tremendous interest in inflation. So year-to-date, we've taken in over $17 billion in inflation-linked product followed by, I would say, broad core bond product. So think of your US aggregate investment grade type of exposure, but inflation is definitely the dominant topic right now.

- And so how do they become more important next year when we're expecting to see even more volatility? And how-- you know, what sort of percentage of these type of bond ETFs should be in your portfolio, do you think?

STEVE LAIPPLY: So we've been pretty steadfast throughout the cycle. Rates are fairly low, but we continue to believe that bond ETFs and fixed income in general serve a valuable role in the portfolio. Even at these low rate levels, we witnessed over the past week or so the volatility, the benefits of having fixed income in your portfolio.

So as we kind of went through this, you know, Omicron volatility, we saw, for example, our long duration Treasury products performed very well as a hedge against your equity portfolio. So even at these levels, we think it's very important to have a core allocation of fixed income in the portfolio.

And I think, you know, we've seen this across different investor types. So we just crossed half a trillion in US fixed income i-shares in the US. That's been driven by all types of investors, from retail investors all the way to institutional investors, such as pension funds, insurance companies, et cetera. And so investors of all types and sizes are recognizing the benefits of these products.

ALEXIS CHRISTOFOROUS: So, Steve, when it comes to building a portfolio of fixed income ETFs, I know that duration is one factor that is very important to investors. But now we have an environment where interest rates are going to start to be creeping higher next year, inflation expectations are increasing.

So I'm wondering if you're seeing folks choose shorter durations, ultra-short durations lately. What has interest been like?

STEVE LAIPPLY: So interestingly, right now, because of where short-end yields are, we have not actually seen that much interest in the very short end of the yield curve. We've seen quite a bit of interest in shorter-dated inflation products-- so for example, STIP, which is our 0 to 5 inflation product has seen quite a bit of interest.

We've seen sort of shorter duration versions of investment grade exposure get some interest. But that's still kind of out in the one to five-year bucket. The near cash products are challenging because rates are so low. And with inflation where it is right now, it's very difficult to be in cash.

So as you know, the last inflation print was over 6%. Tomorrow, the expectation is north of that. And so to stay in cash right now is a challenging thing to do. And we would encourage investors to diversify accordingly out the curve.

- I have heard the acronym TIPS mentioned so much more frequently than I ever heard before. Tell me, what is the appeal of Treasury inflation-protected securities at this point?

STEVE LAIPPLY: So it's been interesting, right? For many, many, many years, inflation has been pretty tame. And for quite a few years, there have been warnings that you could eventually see a resurgence in inflation, particularly in the aftermath of the Financial Crisis with all the quantitative easing programs.

There was always discussion that someday it may actually return, and here we are in 2021 and we're starting to see these very significant inflation prints. The benefit of Treasury inflation-protected securities, or TIPS, as you said, is that they provide the ballast of treasuries-- that is the risk-free exposure of treasuries-- but with an inflation return component. So as realized inflation comes in higher than expected, that allows for a positive return.

So as an example, the positive returning fixed income sectors this year have mainly been in high yield and TIPS. So our short-dated TIP product, STIP, has returned over 5% this year. The high yield credit products have returned sort of high 4%. And other products which are higher quality have been a little bit challenged. So it shows you how important it can be to have TIPS in your portfolio right now.

ALEXIS CHRISTOFOROUS: All right, Steve Laipply, BlackRock Head of US Bond ETFs, thanks so much for stopping by.