Defined-maturity bond funds from BlackRock and Invesco have grown in popularity this year ILLUSTRATION BY ALEXANDRA CITRIN-SAFADI/WSJ By Jack Pitcher Nov. 6, 2023 5:30 am ET 68 Investors looking to lock in higher yields are turning to a lesser known type of bond fund. Defined-maturity exchange-traded funds have surged in popularity recently. As their name suggests, the bond funds mature and liquidate on a specific date, similar to how an individual bond pays back its principal. BlackRock BLK -0.77%decrease and Invesco IVZ -3.08%decrease are the two major providers of the funds, which allow investors to tap the advantages of buying a single bond—namely reducing interest-rate risk—while still allowing for diversification and easy trading. The funds hold a basket of bonds that mature close to the maturity date of the fund. Holdings that mature before the fund’s date are often placed in cash-equivalents held by the fund. On the maturity date, the fund’s shares are liquidated at their net asset value with the proceeds paid to investors as a distribution. With the U.S. projected to borrow $2 trillion yearly for the next decade, the Treasury Department will need to sell a lot more bonds. WSJ’s Dion Rabouin explains what it means for the stock market. Photo illustration: Noah Friedman BlackRock’s iShares iBonds Dec 2033 Term Treasury ETF, for example, tracks an index of Treasurys maturing in 2033 and currently holds a portfolio of three U.S. Treasury notes. The average coupon of the notes held by the fund, which launched in June, is about 3.6%. But investors buying now would have an effective yield to maturity of around 4.7%, because yields have risen and the fund’s share price has fallen since its launch. Investors are using defined-maturity ETFs to build bond ladders, an investing strategy that had fallen out of favor in recent years when yields were negligible. The strategy involves buying a series of bonds with staggered maturities. When a bond matures, the proceeds are reinvested in a new bond with a longer maturity at the top of the ladder. The strategy requires more work than simply buying and holding a fund, but it can help investors lock in a specific yield over a set period, provided the fund’s holdings don’t default. It also reduces the risk of being trapped in a bond fund whose value has been pummeled by rising interest rates. Even if rising rates hit the secondary market value of a long-dated bond issued at a lower rate, the fund’s price will return toward its par value by the time it matures. EXPLORE BUY SIDE FROM WSJ Expert recommendations on products and services, independent from The Wall Street Journal newsroom. Best Bond ETFs Best CD Rates What Is a CD Ladder Benchmark 10-year Treasury yields touched 5% in October before quickly retreating to around 4.6% following last week’s Federal Reserve meeting. The moves have highlighted how volatile bond markets are right now, making the idea of locking in a specific yield potentially more attractive. Anyone looking at their bond funds’ dismal performance in the past two years has become familiar with interest-rate risk. Bond funds that cycle through holdings to keep their average maturity date steady can leave investors more vulnerable to moves in rates. “If you just invest in a broad benchmark fund that’s continually turning over to maintain a constant duration, you lose the opportunity fixed-income provides to achieve a defined outcome where you buy a bond and hold it to maturity,” said Jason Bloom, head of fixed income and alternative ETF strategy at Invesco. U.S. 10-Year Treasury NoteSource: Tullett Prebon 2023Nov.3.003.253.503.754.004.254.504.755.005.25% Invesco’s BulletShares line of ETFs includes defined-maturity funds for investment-grade corporate, high-yield, and municipal-bond funds, with maturity dates ranging from this year to 2033. The funds have taken in a collective $3.7 billion this year. Many of the users are financial advisers setting up bond ladders for their clients, Bloom said. ETFs can remove some of the time, effort and cost of finding and buying individual bonds, which are typically sold in large lots aimed at institutional investors. “Bond laddering is a pretty well-worn strategy historically, but it was cumbersome and at times difficult to implement,” Bloom said. Anyone with a brokerage account can set up a bond ladder using defined-maturity funds. BlackRock offers a competing series of funds, dubbed iBonds. They include defined-maturity Treasury bond funds as well as other fixed-income asset classes, with total assets under management of about $25 billion, up from $9.7 billion at the end of 2020. Demand for the funds has soared since the Fed began lifting interest rates, with the suite of funds taking in nearly $7 billion of new investor cash this year, said Steve Laipply, global co-head of iShares fixed-income ETFs at BlackRock. That’s on pace with 2022’s record flows for the product. SHARE YOUR THOUGHTS What has been your experience with defined-maturity bond funds? Join the conversation below. The funds are popular in part because they are cheap. BlackRock offers defined-maturity Treasury funds at a 0.07% fee, or 70 cents a year on a $1,000 investment. A defined-maturity investment-grade bond fund from Invesco costs 0.1% annually. Although a continuing bond ladder behaves much like a traditional bond fund over time, a primary advantage is that it gives investors better flexibility to make changes. If an investor wants to get out of his bond holdings for any reason, he can let the current rung of the ladder mature at par, rather than potentially being forced to sell a bond fund at a loss during a period of rising rates. Long-dated bond funds in particular have been crushed by rising rates, with BlackRock’s ETF tracking 20+ year Treasury bonds falling by about half from its 2020 peak. Bonds issued just a few years ago when rates were low had low coupons. Now that rates have risen, their price has fallen so that the yield to maturity will rise to where the market is. Net fund flowSources: BlackRock, Invesco, BloombergNote: 2023 flows are through 10/31. Invesco BulletSharesBlackRock iBonds2018'19'20'21'22'2302468$10billion “The biggest advantage is that the investor is in control. If they decide to reinvest, that’s within their discretion,” Laipply said. The funds can also be used to express a view on how yields might move for a specific part of the yield curve, or to match up income needs with a specific liability or time frame. Locking in higher yields is top of mind for many investors. Trillions have flowed into money-market mutual funds this year, the cash-like instruments paying around 5% yields. But those funds are heavily influenced by short-term rates and offer little in the way of future guaranteed income. David Kelly, who writes commentary for financial advisers and wealth managers as J.P. Morgan Asset Management’s chief global strategist, is advising clients to extend the duration of their fixed-income maturity and move some cash holdings to bonds. “I think cash is honestly a trap. It has never proven to be a good long-term investment,” Kelly said. “I think it makes sense to go longer duration now, and I’m talking about long-term investors, not just fixed-income traders.”