Fidelity is taking the long view with the Fidelity Low Duration Bond Factor ETF (FLDR) and the Fidelity High Yield Factor ETF (FDHY), both of which launched in June 2018. The former uses a rules-based process to optimize the balance of interest rate risk and credit risk so that both return and risk measures may be improved relative to traditional benchmarks. The latter is an “actively managed ETF leveraging a quantitative model to select investments,” according to Fidelity, and applies value and quality factors to find high-yield bonds with strong return potential and low probability of default.

Neither fund has yet to crack the $100 million mark. “We don’t look at AUM as a measure of success,” says Friedman, though he adds Fidelity is seeing steady asset growth with the funds.

Rob Waldner, chief strategist and head of multi-sector fixed income at Invesco, believes it’s only a matter of time before these new funds gain traction. “This approach is so well-established in the equity sphere, and we think that factor-focused bond investing will also grow in popularity over time,” he says.

The early results with this approach are promising. The iShares Yield Optimized Bond ETF (BYLD), for example, is cited as the top-performing “core plus” bond fund, according to Morningstar. The fund has a 0.20% expense ratio and had $63 million in assets as of this year’s second quarter. It topped the Bloomberg Barclays U.S. Aggregate Bond Index by 50 basis points, on average, over the past five years.

Screening For Quality

Much of the focus in this factor-based bond ETF category has been on high-yield, or junk bonds, which are vulnerable to defaults if the economy slips into recession. Though these newish ETFs—many of these high-yield products have rolled out within the past two years—deploy screening processes to weed out bonds of lower quality, we won’t know how they will perform until weaker economic conditions arrive.

The growing roster of quality-focused high-yield choices includes the aforementioned Fidelity High Yield Factor ETF, the iShares Edge High Yield Defensive Bond ETF (HYDB) and the IQ S&P High Yield Low Volatility Bond ETF (HYLV). These funds charge between 0.35% and 0.45%.

The IQ fund is based on an index that looks at the liquid U.S. high-yield bond universe, takes spread and duration into account, and then tracks the half of the market that scores best. “We’re getting 75% of the high yield with 67% of the volatility,” says Sal Bruno, chief investment officer at IndexIQ.

Invesco aims to undercut the competition on price by charging a lower 0.23% expense ratio for its own version of a quality-screened high-yield play, the Invesco Corporate Income Defensive ETF (IHYD). And the firm goes beyond high yield, applying the quality screening approach to the Invesco Investment Grade Defensive ETF (IIGD, which charges 0.13%) and the Invesco Emerging Markets Debt Defensive ETF (IEMD, which charges 0.29%).

The IEMD fund in particular appears well built to tackle the twin challenges of emerging market bonds: currency risk and economic risk. The fund focuses on bond issues of shorter duration that have higher-than-average credit ratings. The average holding in the fund matures in 2.46 years and has a weighted average coupon of 5.18%. By focusing on shorter-duration bonds, this fund is less exposed to the wide bands that currencies can trade over longer time periods.