Transcript:
Caroline Woods
Everyone talks about AI, ETFs and the S&P 500, but quietly fixed income ETFs are having one of their best years ever. Danielle Rutsky is ETF capital market specialist at Northern Trust and joins us now to explain what’s driving the shift and where investors may want to pay attention. Danielle, great to have you at the desk.
Danielle Rutsky
Thank you so much for having me.
Caroline Woods
So I was taking a look. ETF flows have surpassed $1 trillion this year. Almost a third. We’ve gone into bond ETFs. What is driving that.
Danielle Rutsky
Yeah. So looking at the whole picture it’s amazing that over that trillion dollars has gone into ETFs overall. That’s the first time that’s happened in the first half of the year. And so fixed incomes specifically have taken in 29% of all ETF flows. But they’re only 16% of the AUM still. So they’re punching above their weight. And what we’re seeing investors doing is really balancing risk taking with their desire for income.
Danielle Rutsky
And that theme really drives across other ETF segments that are really popular right now as well, such as factor ETFs. In fact, we had $800 billion flow into them in the first half of the year. And what’s interesting is that trend of searching for yield really translates into the fact that the second most popular factor was high dividend yield strategies.
Danielle Rutsky
And within, ETFs, there’s some consistent themes across risk management where defined outcome ETFs had $14 billion inflows. Income strategy saw a $60 million come in in the first half of the year. So we’re really excited that the Northern Trust distributing latter ETFs, fulfilled both those investor needs and wanting to.
Caroline Woods
Okay. So break it down and tell us what it actually tells you about today’s investor. Are investors looking for safety or are they just simply looking for income.
Danielle Rutsky
Yeah. So we see investors looking for, goal driven solutions. And that’s why for our ETFs we’re really focused on, protecting investors income and having them keep more of what they earn. Whether that’s inflation protection or whether that’s being federally tax exempt or low fee ETF. So our municipal bond suite of ETFs and A, B, C and D, for example, have an expense ratio of 18 basis points.
Danielle Rutsky
And our Tips ladder ETFs type A, B, C and D have an expense ratio of ten basis points. So investors can really focus on keeping more of their income.
Caroline Woods
Okay. So let’s break it down even further than if someone says I need more income in my portfolio. Where should they even begin?
Danielle Rutsky
So municipal bonds, municipal bonds in general are really great. It can be a complicated market as there are 60,000 issuers. And to put that in perspective, there’s $4 trillion in assets in the municipal bond space, which is the same as for corporates, but with ten times the number of issuers. But investors want to sort through that market as municipal bonds are federally tax exempt.
Danielle Rutsky
Year to date tax equivalent yields, they’re beating treasuries and they’re beating the U.S. aggregate space. And Muni themselves have yields that are 90 basis points over their ten year averages. And finally, default rates and rating changes are far less likely and munis than similarly rated corporates. A study actually showed that unis had a default rate of 0.0 9%, compared to corporates of over 2%.
Danielle Rutsky
So you’re seeing investors looking for income through through that avenue as well as the Treasury. Inflation protected securities, which protect investors when inflation comes in above where market would expect inflation to come in.
Caroline Woods
Okay we’ll get to tips. But sticking with Moody’s for just a second. I know that they’re known for tax advantages. You’ve mentioned that. Are those really meant for just retirees or should younger high income investors also be paying attention to munis?
Danielle Rutsky
Yeah. So there’s a lot of versatile use cases for, federal tax exempt income on a cash flow management basis. So we see our ETFs being used for financial goal planning, whether that’s college tuition saving, retirement, philanthropy, but also lifestyle planning such as travel or home improvement. Any time that you would want consistent cash flows. Our our a lot of ETFs take that tax exempt income and put it in a way where in practice investors are getting monthly interest income and also annual, principal return to them so they can manage their spending needs with their income.
Caroline Woods
Okay. And then you mentioned tips inflation still, I guess technically dominates the headlines, but it’s obviously not as strong as it once was. There still are concerns about sticky inflation, especially given what’s going on with oil prices. Why should investors be thinking about tips today?
Danielle Rutsky
Yeah. So breaking down what tips are as their treasuries where their principal is adjusted. And an increase is if there’s inflation and it decreases if there is deflation. But when you look at it, compared to its origin security nominal treasuries, nominal treasuries yield comes from the same, real rate that is involved in Tips, which is fixed.
Danielle Rutsky
And then our additional yield comes from that breakeven rate or the market expectation of inflation, which is also a fixed rate. Whereas in Tip you’re getting this floating or variable adjustment back to principal. So you’re actually using it as a tool to protect yourself from surprise events, as we’ve seen with the war in Iran or a global pandemic, if there’s periods of short term inflation, you wouldn’t be protected in a nominal treasury, whereas you would be from tipped floating, principal adjustment.
Caroline Woods
What sort of returns can investors expect to see from munis and tips?
Danielle Rutsky
Yeah. So, as I was saying, you know, 2025 was a tumultuous year for municipal bonds. But 2026, we’re seeing credit be resilient due to high reserve levels, and tax revenues. And so that’s actually been driving demand has had over $50 billion which is meeting record supply. So northern trust stability continuing in the municipal bond fees, and in Treasury inflation protected securities or tipped as I was saying, you know, there’s more, you know, shocks that could happen that you would want to be protected from, even in cases when Northern Trust believes that the market is pricing inflation properly.
Danielle Rutsky
And throughout history, the market has believed that the fed will get inflation back to its 2% target. And that means that the fed has incredible credibility, but also that in terms of short period inflation, you’re not getting that protection in the breakeven rate because the breakeven rate is going to stay around 2%. So that’s really where you need to utilize tips for that protection okay.
Caroline Woods
So we’ve talked about what investors might own. But just as important is how they should own it. And you’ve been talking about bonds latter. So for those people who are listening in and saying what is that? Explain it to us. Yeah.
Danielle Rutsky
So Northern Trust recently launched our Distributing Bond Ladder ETF. As I was saying, municipal bond ladders and A through D and tip ladders, tip A through tip D and the way that these portfolios work is it takes a traditional bond ladder, which invests in a portfolio of bonds with staggered maturities and has them organized by calendar year or rungs, with bonds maturing within each of those calendar years, and returns that monthly interest income back to investors.
Danielle Rutsky
But where our bond ladders differ from a perpetual bond ladder is instead of reinvesting when the bonds mature, we distribute that principal back to investors. So that way interest rate risk is minimized and the investors have duration control as well.
Caroline Woods
So why would someone buy through a bond ladder versus just buying a traditional bond ETF?
Danielle Rutsky
That’s a great question. So our, should be glad our ETFs take all of the benefits of holding a bond to maturity. As I was saying, mitigating interest rate risk. But the convenience of an ETF a single ticker. So that means that you’re not, sourcing through hundreds of bonds and dealing with all of those line items in your reporting.
Danielle Rutsky
We handle all those operational details. You just have to worry about one single ticker. And it really streamlines operations for advisors and saves them time to have important conversations with their clients.
Caroline Woods
What’s the biggest trade off, though, that investors should consider before buying one of these?
Danielle Rutsky
Yeah. So they really just need to make sure that this is the right, tool for their investment profile, that they’re looking to have goals driven investing or capital management or budgeting tools. Because that’s really where these ETFs come into play. As for example, the most general sense, they make sure an investor’s cash flow needs are matched with their income.
Danielle Rutsky
So for retirement, retiree, for example, looking to wait until they have full Social Security benefits to retire at 65, they might invest in our five year ladder to fill in that gap until they get full Social Security benefits. And then at 70, they can continue to use these ETFs to receive cash flow and maintain their lifestyle.
Caroline Woods
Okay, so this brings me back to the question of who is best suited for these those people closer to retirement.
Danielle Rutsky
Retirees are a great example of utilizing these ETFs to set it and forget it for their retirement needs. But we’ve seen investors of all ages utilize these ETFs, as I was saying, for home improvement, if they know that every year, they’re going to want to have a certain outlay of money to dedicate towards renovations or, college tuition for people with younger children who want to save up, for, for any type of school planning or, you know, even private school, payment plans.
Danielle Rutsky
So it really, you know, it depends on your, financial portfolio and where this fits into that sleeve for, you know, either a inflation protected sleeve or a federally tax exempt sleeve or a time determined size.
Caroline Woods
Okay. All right. I think this is a great time to pivot to our rapid fire game of this or that. It’s very quick questions. Quick answers. Are you ready to play?
Danielle Rutsky
Yeah.
Caroline Woods
Here we go. Active bonds or passive bonds.
Danielle Rutsky
For the spaces that we’re talking about, active portfolio management. You know, we have 30 years of experience in these spaces, that, that investors get access to.
Caroline Woods
Okay. Munis or treasuries.
Danielle Rutsky
A blend of both.
Caroline Woods
Types are investment grade corporates. I would say tips monthly income or total return.
Danielle Rutsky
Total return.
Caroline Woods
Ladder or barbell.
Danielle Rutsky
Ladder.
Caroline Woods
Longer duration or shorter duration. Today.
Danielle Rutsky
Today. Shorter duration.
Caroline Woods
Most misunderstood thing about bond investing today.
Danielle Rutsky
That it’s important to know if you are, open to interest rate risk if you’re not holding the bond to maturity.
Caroline Woods
ETF trend, that’s still underappreciated.
Danielle Rutsky
Risk management tools, cash flow management tools.
Caroline Woods
Most overlooked retirement mistake.
Danielle Rutsky
Taking Social Security benefits. You know, before you’re outside of day.
Caroline Woods
One overlooked ETF category. Investors should be watching.
Danielle Rutsky
Budgeting tools and cash flow management tools.
Caroline Woods
Lock in today’s yield or wait for rates to fall.
Danielle Rutsky
Lock in today’s yield.
Caroline Woods
Complete this sentence. The biggest opportunity in ETFs over the next five years is fixed income.
Danielle Rutsky
The market needs to right size itself. The fixed income market outside of ETF is $10 trillion larger than the equity market, but it’s much smaller in the ETF industry. So we will see investment use cases grow as the market, continues to grow.
Caroline Woods
Okay. And one thing that I should have asked that I’m thinking of, that I just want to get in is we didn’t really talk about the fed. Obviously there’s expectations that the fed is not necessarily going to cut this year. There have been talks about rate hikes. How much does that matter as people are thinking about munis and tips and bond flattering in general.
Danielle Rutsky
Yeah. So we started this quarter thinking that the the fed was going to, cut interest rates by seven basis points. And now we’re pricing in 40 basis points of rate hikes. So in this macro environment of higher, higher interest rates and uncertain inflation, that’s where we see our ladders. Succeeding as again, David turn principal to investors every year, which means they’re holding bonds to maturity.
Danielle Rutsky
So interest rate risk is minimized. And that would be a great reason to utilize the Treasury Inflation Protected Security ETF that we have, to protect from inflation being higher than where the market is pricing it around the Fed’s 2% target.
Caroline Woods
Okay. All right. We’ll leave it there. Danielle, really appreciate you sharing some light on this space. That’s Danielle Rutsky, ETF capital market specialist at Northern Trust. If you enjoyed this ETF spotlight, check out our full interview with Matt Kaufman. He explains why investors are moving beyond the traditional 60/40 portfolio.
