The Power of Active Bond ETFs: Better Returns, Bigger Opportunity

And plenty of those assets and attention have gone to fixed-income active ETFs.

It turns out that fixed income remains one of the best, if not the best, sectors of the market where active management and active ETFs can win. Some analysts have postulated that active ETFs are the only way investors should venture into the fixed-income space.

It’s perhaps hard to believe, but ETFs have been around for more than 30 years. Most of that time, ETFs have been associated with passive and indexed investing. That was true until 2008, when the first active product launched. However, even then, active ETFs were a niche product, not catching on with investors. All of that changed a few years ago. Rules changes at the SEC allowed new innovative structures, and the active ETF movement was off to the races.

Leading the way has been bond funds.

Active fixed-income ETFs were initially limited to ultra-short bond strategies. But today, there is a wide range of fixed-income strategies and active bond ETFs. It’s easy to see why investors have embraced active ETFs for bonds. They simply outperform passive strategies.

According to State Street, active bond managers are better at beating their respective benchmarks than active stock pickers. Looking at the data, the asset manager found that over the last decade, an average of 55% of active intermediate core and core-plus fixed income managers outperformed their benchmark. This compares to just 35% of stock pickers. ¹

This chart from State Street highlights the gaps.

Source: State Street

And this is just in core and core-plus fund categories. Looking at more esoteric bond categories like high yield, bank loans, municipal bonds, and convertible debt, the outperformance of active managers versus their benchmark grows. For example, over the last 10 years, 76.9% of the lowest-cost active high-yield funds outperformed their passive rivals.

The question is why? Why can active bond ETFs outperform while active stock ETFs tend to fall flat? The answer comes down to a few significant differences.

The biggest being that passive funds don’t own the “whole” market.

The global fixed income universe is vast, covering over 3 million different individual bonds and is worth about $142 trillion. However, the average bond index only looks at a fraction of these securities.

For instance, the Bloomberg U.S. Aggregate Index (Agg), which is considered the standard for the U.S., only includes about 47% of the $53 trillion U.S. public bond market. The Agg excludes many asset classes. Moreover, some asset classes, such as ABS and agency securities, only have limited exposure within the index. The majority of the $13.5 trillion securitized market is excluded. And it’s not just the Agg. Many high-yield and municipal bond indices focus solely on the most liquid bonds rather than all the securities within their respective universes. ²

This deep and diverse opportunity is fruitful hunting for active managers looking for alpha and additional yield. That breath of opportunity, coupled with credit research, works well to beat the market.

Active ETFs have only enhanced their outperformance further. This enhancement comes at the hands of several factors.

This includes expanded tax efficiency and insulation from trading costs related to other investor activity due to the creation/redemption mechanism and secondary market. Bonds by nature are a higher tax asset class with coupon payments coming at ordinary income rates. This can be as high as 39% for some investors. Holding bonds in a mutual fund can expose investors to capital gains and the taxes that come with them – even if investors don’t sell their shares. However, thanks to their creation/redemption mechanism, ETFs can pass on those taxes outside the fund. For active management – and its potentially greater trading/turnover ratios – this is a godsend for portfolios.

Additionally, active ETFs provide additional liquidity to some very illiquid assets. Because investors are trading shares of the ETF rather than the underlying assets, they gain tighter spreads and increased volume. J.P. Morgan notes that active junk bond ETFs have bid/ask spreads of just 0.028% vs. 0.275% for the junk bond universe.

Structural differences give ETFs a cost advantage over other investment vehicles. Active ETFs typically have lower expense ratios than active mutual funds, allowing investors to keep more of their returns.

With this in mind, when building a fixed income portfolio, the choice is clear. Be active and use an ETF. There is now a growing chorus of advisors and analysts who think investors should ditch their passive index funds in the space and replace them with active ETFs. The reasons for adding a swath of active fixed-income ETFs to a portfolio are very compelling.

These ETFs were selected based on their low-cost exposure to active bond management. They are sorted by their YTD total return, which ranges from -2.8% to 4.7%. They have expenses between 0.15% and 0.70% and assets between $138M and $23B. They are currently yielding between 4.4% and 9%.

All in all, active ETFs and fixed income go hand-in-hand. Thanks to the ability of managers to have a larger opportunity set, active ETFs can and do outperform their passive peers. And in that, investors may want to switch their passive bond holdings to a more active approach. Luckily, there are plenty of ETFs available covering the world these days. Finding great choices is easy.

When it comes to bonds and fixed income securities, the choice is clear. Active ETFs are the winners. With stronger outperformance potential and the ability to cover more of the bond market, even within standard bond benchmarks, active ETFs and management are the way to go about bonds.

¹ State Street (July 2024). Finding Opportunities with Actively Managed Fixed Income ETFs

² J.P. Morgan (July 2025). From Evolution to Revolution: The Power of Active Fixed Income ETFs