A fixed income ETF is an investment vehicle which derives its value from the value of all of the fixed income instruments in which it invests. Bonds, which are loans given to the institutions that issue them by investors in return for regular interest payments, are the primary types of fixed income investments. The benefit of a fixed income ETF, or exchange-traded fund, is that it provides the flexibility of stock trading with the steady return of bonds. Payments are received by investors based on the performance of all of the bonds within the fund, which are either chosen by the fund manager or tied to a specific index.
Each investor has specific goals for their investment capital. Many financial instruments are specifically tailored to provide a certain type of benefit. For example, bonds are generally chosen for their stability, while mutual funds are chosen because they allow investors to diversify into many different areas. Stocks are considered flexible and easily traded, with great growth potential. A fixed income ETF provides a little bit of all of those qualities to investors.
At its core level, a fixed income ETF is a mutual fund, which is a pooled investment vehicle that is professionally managed and derives its value from all of the various securities it contains. Unlike a mutual fund, though, an ETF can be actively traded on an exchange by investors. Its value changes throughout the trading day as it is bought and sold and as the various securities within it rise and fall in value.
In the case of a fixed income ETF, the securities that are included are bonds. Bonds are known as fixed income instruments because they promise regular interest payments to the investors who buy them. Many ETF's devoted to bonds are tied to some specific bond index, which means that they contain all of the bonds that the index tracks. Some ETF managers may have the leeway to choose bonds of their own volition to meet the specific goals of the fund.
With a fixed income ETF, investors get much of the diversification promised by mutual funds. If one or even a few of the bonds within the fund are underperforming, the many others included have the opportunity to balance them out. This diversification can also soften the blow of certain bond issuers defaulting on their payback obligations, which can occur at times with high-risk corporate bonds. Rising interest rates can also affect the performance of the bonds in an ETF, but the ability to easily sell the fund on the market could lessen the impact of that occurring.
