3 Great Canadian Bond ETFs for 2024

These ETFs offer compelling Canadian bond exposure as more funds launch in an era of higher interest rates.

Lan Anh Tran 13 May, 2024 | 9:42AM
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The classic Canadian balanced stock-bond portfolio rebounded strongly in 2023 after a challenging 2022, reminding us of the importance of fixed income in an investment portfolio. Investor demand returned as Canadians poured nearly $9 billion into balanced portfolios in 2023.

Launches of bond funds have also picked up, with post-2022 products now accounting for around 20% of the current Canada-listed bond fund lineup.

Broad passive bond ETFs provide an accessible way to get exposure to the Canadian bond market at an inexpensive price tag. In this article, we feature three highly-rated ETFs that can help provide a stable income stream and diversification benefits for your portfolio.

Their broad scopes encapsulate much of the investment opportunities in the targeted market. This diversifies the portfolio composition while not missing out on any specific winner. All three ETFs use a market-value weighting scheme, which tilts their assets towards the largest issuers: the Canadian government and Canada’s largest banks. These entities represent much of the investment opportunities in the investment-grade bond market and are also among the most credit-worthy institutions domestically.

The ETFs are managed by the fixed-income index teams at Vanguard and iShares, both experienced and well-resourced teams that deliver high-fidelity index tracking performance.

Canadian Bond ETF Spotlights

1. iShares Core Canadian Universe Bond ETF XBB offers broad market-value-weighted exposure to investment-grade Canadian bonds at only a 0.10% annual fee.

The fund tracks the FTSE Canada Universe Bond Index, which includes CAD-denominated investment-grade bonds. Eligible issues must have at least one year remaining until maturity and a minimum issuance size of $100 million. The index excludes floating-rate notes, mortgage-backed securities, and convertible bonds, except for contingent capital securities that are triggered by a nonviability event.

2. Vanguard Canadian Aggregate Bond ETF VAB provides a well-constructed portfolio of investment-grade Canadian bonds at a low annual management fee of 0.09%.

The fund tracks the Bloomberg Global Aggregate Canadian Float Adjusted Bond Index. The index captures fixed-rate, investment-grade bonds denominated in Canadian dollars. Eligible bonds must have at least one year remaining until maturity and $150 million outstanding. The index excludes bonds with equity features such as convertibles or preferreds, and contingent capital securities with balance-sheet-based triggers, but it allows bail-in bonds and nonviable contingent capital (NVCC).

Canadian Market-Value Weighted ETFs

Both aggregate bond ETFs follow a market-value-weighting method. Vanguard Canadian Aggregate Bond ETF reflects public float by reducing bonds’ outstanding amount by the amount held by the central government. Neither indexes hold mortgage-backed securities, so the current Bank of Canada’s purchase of Canadian mortgage bonds would not cause a major divergence between the two ETFs.

The largest issuers, namely the Canadian federal and provincial governments, tend to account for over two-thirds of the aggregate bond ETFs’ assets. This stake includes around 25-30% in Treasuries and around 35-40% in provincial and municipal bonds. Provincial bonds are often riskier than Canadian Treasury bills. Thus, these securities offer higher yields than otherwise equivalent federal bonds. Nonetheless, they still enjoy the full taxation and fiscal power of the Canadian provincial governments and are generally safer than corporate bonds.

Compared to the iShares Core Canadian Universe Bond ETF, the Vanguard ETF often allocates a few percentage points less to corporate bonds. This is due in part to its slightly higher amount outstanding threshold. Nonetheless, both funds load up on safer government bonds and carry a more conservative risk profile than most category peers. This typically helped them outperform the category average during credit shocks, such as the 2020 coronavirus-driven drawdown. However, the lack of credit risk can be a drag on performance during risk-on environments.

A Great Canadian Investment-Grade Bond ETF

3. iShares Core Canadian Corporate Bond Index ETF XCB is an affordable & compelling option for investment-grade Canadian corporate bonds. The fund has actively slashed its management expense ratio in recent years down to 0.17%, improving its low fee advantage.

This ETF tracks the FTSE Canada Corporate Bond Index. The index sweeps in investment-grade, Canadian corporate bonds with at least one year remaining until maturity and at least CAD 100 million issuance size. It weights selected bonds by their market value.

As active funds in the category have the flexibility to pick up BB-rated bonds for extra yield, this ETF’s credit risk profile looks slightly more conservative. It also has a slightly longer effective duration than the category average, which can stand to benefit when the Bank of Canada cuts interest rates.

The ETF typically parks around 40% of its assets in bonds from financial institutions, with about 25% in the five largest Canadian banks. Canada’s largest banks represent much of the investment opportunities in the investment-grade corporate bond market. These institutions are classified as domestic systemically important banks and tend to carry credit ratings between AA and A.

The fund includes bail-in-able senior debt and subordinated debt (Tier 2). These instruments are convertible into equity if the bank is deemed nonviable by Canadian regulators. Despite the added uncertainty of the equity conversion, a conversion is unlikely to be a surprise as it would happen after common equity and the first level of bank debt have been wiped out. The largest banks are required to incorporate bail-in features into their new issuance moving forward, and these securities will become a common feature of the Canadian market.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
iShares Core Canadian Corporate Bd ETF19.48 CAD-0.10Rating
iShares Core Canadian Universe Bond ETF27.43 CAD-0.25Rating
Vanguard Canadian Aggregate Bond ETF22.37 CAD-0.27Rating

About Author

Lan Anh Tran  Associate manager research analyst for Morningstar.

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