U.S. government bond exchange-traded funds (ETFs) are similar bond mutual funds in that both vehicles track indexes composed of U.S. government obligations. These indexes may consist of nominal and U.S. Treasury inflation-protected securities (TIPS). Nominal bonds pay a fixed interest rate, while TIPS pay interest rates equal to the inflation rate plus a fixed premium.
- U.S. government bond exchange-traded funds track indexes that comprise U.S. government obligations.
- The indexes that these funds mirror mainly consist of nominal and U.S. Treasury inflation-protected securities (TIPS.)
- Due to the fact that U.S. government ETFs are exempt from paying state and local taxes on interest earned, they are deemed safer compared to other fixed-income ETFs, due to their low default risk.
- These ETFs typically generate lower returns than funds that invest in riskier bonds.
Exempt from paying state and local taxes on interest earned, U.S. government bond ETFs are also much safer than other fixed-income ETFs, due to their low default risk. At the same time, they offer lower returns compared to other riskier bonds.
The expense ratio for the U.S. government ETFs tends to be low due to the high liquidity of the U.S. obligations market, coupled with low transaction costs. The performance of the U.S. government ETFs is closely tied to the projected interest rates. Simply put: when rates rise, bond ETF prices fall.
The following U.S Government Bonds ETFs warrant a closer look.
The iShares 1-3 Year Treasury Bond ETF
Started in 2002 by BlackRock Fund Advisors, the iShares 1-3 Year Treasury Bond ETF (SHY) seeks to track the performance of the Barclays U.S. 1-3 Year Treasury Bond Index, which comprises U.S. obligations with maturities ranging from one to three years. SHY has an effective duration of 1.86 years, and its holdings are 99% invested in U.S. Treasury instruments.
This ETF provides exposure to short-term U.S. Treasury bonds and targets a specific segment of the U.S. obligations market. The expense ratio of the fund is 0.15%, which is in line with comparable ETFs.
SHY suits investors looking to substitute cash accounts and cultivate exposure to U.S. government bonds with low risk of default and shorter durations.
The SPDR Barclays Intermediate Term Treasury ETF
The SPDR Barclays Intermediate Term Treasury ETF (ITE) was created by SPDR in 2007 to provide investment results that generally correspond to the performance of the Barclays Intermediate U.S. Treasury Index. ITE primarily invests in U.S Treasury notes and bonds with maturity ranging between one to 10 years. ITE's weighted average maturity is approximately four years.
In September 2019, ITE was renamed the SPDR Portfolio Intermediate Term Treasury ETF, with the ticker symbol SPTI. As of November 11, 2019, the yield-to-maturity stands at 1.79%, and the expense ratio for the fund is 0.06%.
ITE is most suitable for investors looking for safe-haven investments in highly rated U.S. government bonds that have intermediate-term maturities.
The aforementioned funds represent a small contingent of the 32 government bond exchange traded funds in the investor universe.
The Vanguard Long-Term Government Bond ETF
Vanguard launched the Vanguard Long-Term Government Bond ETF (VGLT) in 2009 to track the performance of Barclays U.S. Long Government Float Adjusted Index, which includes nominal bonds and notes issued by the U.S. Treasury and U.S. government agencies with maturities greater than 10 years.
As of October 30, 2019, 92.1% of the ETF invested in bonds with 20-30 year maturities, while 7.8% invested in bonds with 10-20 year maturities.
Due to an extremely low portfolio turnover ratio, the ETF has a low annual expense ratio of 0.07%. Because the fund invests in very long-term obligations, it is especially sensitive to the changes in market interest rates.
This ETF is most appropriate for investors seeking high and sustainable income levels through investing in U.S. government bonds with long dollar-weighted average maturities that range between 10 to 25 years.
The SPDR Barclays 0-5 Year TIPS ETF
The SPDR Barclays 0-5 Year TIPS ETF (SIPE) tracks the performance of the Barclays 0-5 Year U.S. Government Inflation-Linked Bond Index, which is principally composed of TIPS with maturities up to five years. The fund provides real yields by investing in TIPS shielded from inflation—yields that are expected to occur in the future. Because of inflation protection, TIPS offer lower returns in times of deflation and higher returns in times of inflation.
Renamed the SPDR Portfolio TIPS ETF (SPIP) in September 2019, the fund has an expense ratio of 0.12%, which is in line with similar fixed-income ETFs. It has an average weighted maturity of 1.3 years.
This fund is favored by investors seeking the protection of their returns from inflation, who are looking to invest in highly rated fixed-income securities with medium-term maturities.