Bond ETFs surged in 2023, higher rates and improved sentiment to support ETF flows in 2024
A well-diversified portfolio should include both domestic and international investments.
Australian investors flocked to bond ETFs in 2023 as rising interest rates made fixed income allocations more attractive, according to data recently released by the Australian Securities Exchange (ASX) and Vanguard.
Australian bond ETFs received A$3.81 billion in cash flows in 2023, a 37% improvement year on year. Global bond ETFs also attracted A$1.5 billion over the year.
“Although we expect central banks to cut interest rates in the second half of 2024, we’re unlikely to see the “zero-rate era” return any time soon. This means rates are likely to stay relatively higher for longer and are expected to settle in the 3%-4% range in Australia,” said Adam DeSanctis, Vanguard’s Head of ETF Capital Markets, Asia-Pacific.
“While higher interest rates for longer might be painful for borrowers, they’re actually a good thing for investors over the long run, particularly for bond investors. We therefore anticipate bond ETFs to remain popular with Australian investors in the coming year, particularly as domestic bond return expectations have substantially increased since 2022 from 1.3-2.3% to 4.3-5.3% per annum over the next 10 years.
“Hopefully stabilising interest rates this year will also improve investor sentiment and we’re confident growth in the Australian ETF industry will continue”.
Home bias prevalent despite improved returns from global equities
Broad index ETFs that invest in the largest ASX-listed companies attracted the biggest share of equity inflows in 2023 despite the Australian share market recording a substantially lower return than most international share markets. On the whole, Australian equity ETFs attracted A$5.3 billion, up 20% since 2022.
The Vanguard Australian Shares Index ETF (VAS) again was the most popular domestic equity ETF in Australia, recording nearly 11% of net market flow.
Interestingly, despite strong gains recorded in global equity markets, the asset class still received less inflow than its domestic counterpart, recording A$2.2 billion compared to the A$5.3 billion Australian equities attracted.
“It’s clear Aussie investors still favour Aussie equities, perhaps in part due to the familiarity of domestic companies or the view that offshore investments might be riskier. This kind of home bias however can be costly, particularly as 2023 saw very strong returns from global equities. Investors who weren’t invested or had cashed out in 2022 when global equity returns fell therefore missed out on this extraordinary rebound opportunity,” said Mr DeSanctis.
“A well-diversified portfolio should include both domestic and international investments as these different asset classes will respond differently to the same market forces. This is essential to managing investment risks and portfolio volatility”.
