2023-04-05 08:00:00 ET
Summary
- The Franklin International Aggregate Bond ETF invests based on the Bloomberg Global Aggregate ex-USD Index Hedged USD.
- The Vanguard Total International Bond ETF invests based on the Bloomberg Barclays Global Aggregate ex-USD Float Adjusted RIC Capped Index (USD Hedged).
- Both ETFs and their respective index are reviewed. The slight difference in index construction has mattered. I added IAGG within the comparison section of this article.
- While all three ETFs mentioned here hedge, FLIA provides the lowest correlation to US stocks. With its better results in down markets, that would seem the best choice.
(This article was co-produced with Hoya Capital Real Estate )
Introduction
Recently, I have done a series of articles on the concept of finding Core funds to use as the foundation to build a large portfolio on. Core funds are broad-based indexed funds. From there, investors can adjust their segment allocation to fit their research and/or risk tolerance.
Here, I explore two of the three ETFs an investor might consider as their Core International bond market fund. They are:
The third ETF, the iShares Core International Aggregate Bond ETF ( IAGG ) uses a related index, the Bloomberg Global Aggregate ex USD 10% Issuer Capped (Hedged) Index. I included this ETF when doing some of the comparisons between FLIA and BNDX.
Franklin International Aggregate Bond ETF review
Seeking Alpha describes this ETF as:
The fund invests in local currency denominated bonds including fixed and floating-rate bonds issued by governments, government agencies and governmental-related or corporate issuers. It invests in securities with varying maturities. The fund invests in investment grade securities that are rated by S&P and Moody's. It invests in securities of companies that are deemed socially conscious in their business dealings and directly promote environmental responsibility. It benchmarks the performance of its portfolio against the Bloomberg Global Aggregate ex-USD Index Hedged USD . FLIA started in 2018.
Source: seekingalpha.com FLIA
FLIA has just $275.5m in AUM and has the higher fee at 25bps. The SEC Yield is 2.43%.
Index review
Getting information on Bloomberg indices is tough without a paid Bloomberg account. I did locate this description:
The Bloomberg Global Aggregate Bond Index (USD Hedged) represents a close estimation of the performance that can be achieved by hedging the currency exposure of its parent index, the Bloomberg Global Aggregate Bond Index, to USD. The index is 100% hedged to the USD by selling the forwards of all the currencies in the parent index at the one-month Forward rate. The parent index is composed of government, government-related and corporate bonds, as well as asset-backed, mortgage-backed and commercial mortgage-backed securities from both developed and emerging markets issuers.
Source: ssga.com
FLIA holdings review
The regional allocations show Europe and Asia dominating the portfolio.
Funds are spread across 20 countries, plus a large cash position.
franklintempleton.com FLIA countries
Bonds are divided into eight sectors, with government-related issuers accounting for six of those and about 86% of the entire portfolio.
franklintempleton.com FLIA sectors
Credit risk is minimal with the high government percentage, and that is reflected in the ratings allocation; no non-investment-grade debt. Morningstar gives the overall portfolio a AA- rating.
franklintempleton.com FLIA ratings
The second risk factor to know is the maturity schedule as that correlates to the interest-rate risk involved.
franklintempleton.com FLIA maturities
The Effective Duration is 5.5 years and the WAM 6.6 years. FLIA should have the opportunity to improve the weighted-average-coupon with over 23% of the portfolio maturing within two years. Currently, the WAC is 1.9%.
Being an international ETF, there could be currency risk.
franklintempleton.com FLIA currencies; compiled by Author
The above is pulled from the holdings list. The actual webpage shows USD being 98% of the currency exposure, with a 6.8% Chinese Yuan position offset by a 6.3% short in the Chinese Renminbi. The differences are caused when accounting for the Forward contracts. FLIA tries to be 100% hedged.
Top holdings
With under 60 bonds held, and not counting the cash, it is not surprising these positions come to 62% of the portfolio. As bond funds go, this is a highly concentrated one.
FLIA distribution review
FLIA shows a pattern of inconsistent payouts. After payouts in the second half of 2022, there have been none in 2023, as the chart shows happened quite often in prior years. The 19-a shows that the large 2022 (and 2021 for that matter), were not from income but ROC and ROP sources.
Vanguard Total International Bond ETF review
Seeking Alpha describes this ETF as:
The fund invests in the fixed income markets of global ex-US region. It primarily invests in investment-grade, fixed-rate debt markets, which includes government, government agency, corporate, and securitized non-U.S. investment-grade fixed income investments with maturities of more than one year. The fund seeks to track the performance of the Bloomberg Barclays Global Aggregate ex-USD Float Adjusted RIC Capped Index (USD Hedged) . BNDX started in 2013.
Source: seekingalpha.com BNDX
BNDX has $8.1b in AUM and has 7bps in fees. The TTM yield is 1.55%.
Index review
For this one, this explains the non-hedged version, with the only difference being the one used by BNDX hedges against USD movements.
The Bloomberg Barclays Global Aggregate ex-USD Float-Adjusted RIC Capped Index is a customized subset of the Global Aggregate Index that meets the same diversification guidelines that a fund must pass to qualify as a regulated investment company ((RIC)). This multi-currency benchmark includes fixed-rate treasury, government-related, corporate and securitized bonds from developed and emerging markets issuers while excluding USD denominated debt.
Source: assets.bwbx.io/documents
BNDX holdings review
I will start with the regional allocations, which favors Europe and the Pacific regions, as does FLIA.
advisors.vanguard.com BNDX regions
Going down in detail, we see Japan and Australia accounting for most of the Pacific region; China is only 1.2%. Western Europe is well represented.
Important to bond fund holders are two risk factors: credit risk and interest-rate risk. The ratings distribution helps understand the first. BNDX is almost 100% in investment-grade bonds, though 19% of the IGs are rated BBB, the lowest category above non-investment-grade. The Morningstar rating is A+, a notch below FLIA's rating.
Next is the maturity schedule, which equates to a 8.9-year WAM.
As listed above, the Average Duration is 7.4 years, exposing BNDX to a possible price movement of 7.4% for every 100bps move in interest rates. Both of these factors are longer than FLIA's portfolio by a large margin, making the interest-rate risk here greater, but potential gain higher when rates decline.
Top holdings
These bonds are only 6.5% of the portfolio. While issuer risk is small, individual issuers, which was not provided would be higher, though the big issuers are governments. While BNDX holds almost 7000 issues, the bottom 5000 issues only comes to 20% of the portfolio weight.
BNDX distribution review
BNDX has a history of making large payouts at year-end, making the regular monthly payout amount impossible to read but they have run between $.04-.06 most months. Information on the Vanguard webpage indicates even the extra payments came from income.
Comparing ETFs
Factor | FLIA | BNDX | IAGG |
Assets Held | 58 | 6939 | 4828 |
AUM | $275.5m | $48.1b | $4.2b |
Fees | 25bps | 7bps | 7bps |
Yield | 2.43% SEC | 1.55% | 2.22% |
Duration/WAM | 5.5/6.6 | 7.4/8.9 | 6.9/8.5 |
Weighted rating | AA- | A+ | A+ |
YTM | 4.83% | 5.48% | 3.11% |
Sometimes, there is not an overall clearly superior choice, at Least in how I read the results.
With just under five years of data for FLIA, inputs are limited. Between BNDX and FLIA, the first had the better CAGR, but it lagged behind IAGG. While placing third as measured by the two risk ratios, FLIA had the lowest StdDev, and best Worst Year and Max Drawdown. So while IAGG gave the best return, FLIA has provided a smoother ride. That said, measuring periods can change the results as is the case here: FLIA has the best CAGR for the past 1- and 3-years, BNDX so far in 2023.
Portfolio strategy
When some country Central Banks have been holding interest rates below zero most of the time FLIA has existed, the low or negative CAGRs we see above question why today’s investors would want a Core international bond ETF, especially when interest rates have been climbing.
One question to ask within the fixed income segment would be, "Did US bonds do better?". I used the iShares Core U.S. Aggregate Bond ETF ( AGG ), which I just reviewed ( article link ) for this comparison.
While AGG had the top CAGR, it wasn't much at 1.01%! But with that came the deepest Worst Year and Max Drawdown. Of note to me was the fact the three international bond ETFs were more correlated to US stocks than the US bond ETF; one reason people own bonds. As noted elsewhere, 2022 was a very rare year when both US stocks and bonds were down double-digits in the same year.
Final thoughts
I invest in investment-grade bonds for some income but as, normally, a safer place to park some funds than the stock market. I also look for some international funds that hedge to minimize the currency risk of my portfolio. While all three ETFs mentioned here hedge, FLIA provides the lowest correlation to US stocks. With its better results in down markets, that would seem the best choice.
For further details see:
FLIA Vs. BNDX As Possible International Bond Core ETF