With the yield curve flattening and the Federal Reserve determined to continue raising interest rates, ETF investors have been laying bets on bonds that mature sooner than later.

The iShares 0-5 Year Investment Grade Corporate Bond ETF (SLQD) took in $245 million combined on Wednesday and Thursday of last week, the most ever for the nearly five-year-old $1.1 billion fund. On Wednesday, one investor bought a massive block of 2.8 million shares worth $141 million, which accounted for 90% of SLQD’s volume for the day. It’s averaged about $6.5 million in turnover a day over the past year.

 The market-implied probability that the Fed will raise rates by year-end is about 45%.
The Federal Reserve has determined to continue raising interest rates. Bloomberg News

Investors also poured record cash into the Vanguard Intermediate-Term Treasury ETF (VGIT) as almost $185 million flowed into the fund, which tracks intermediate-term Treasury bonds, over the previous two days. Its average daily volume over the past year is $10.6 million.
Near-term bonds are less sensitive to rising interest rates, since the shorter the duration, the less time they have to be affected by the increase.

Another pocket of opportunity is in floating-rate bonds, which due to their shorter duration are less responsive to changes in yield, said Ken Purnell, head of Invesco’s portfolio management for asset-backed securities. That’s why funds like the Invesco Variable Rate Investment Grade ETF (VRIG) have seen total assets reach record highs.

Which active funds had the strongest flows in 2017?
The strategy draws investor interest again, mostly on the strength of fixed income.

But the surge in optimism may need a reality check. Although some investors think it’s going to be a straight line for the 10-year Treasury yield to reach 3.5%, “there might be a few blips on the way,” said Chris Bertelsen, chief investment officer of Aviance Capital, a Florida-based advisory firm.

“We need to get through this trade situation, and you never know what sort of tweet is going to fly by at 6 a.m.,” Bertelsen said. “But our strategy is longer-term, and in the longer-term, shorter duration makes a lot of sense.”

Bloomberg News