Making the Case for Ultra Short Bonds

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August 9, 2021


Ultra-short bond funds offer investors two primary opportunities. First, the potential for a higher yield over a money market fund1 while still maintaining a focus on principal protection and lower volatility. Second, the ability for investors to build more significant protection against interest rate risk than longer-term bond investments.

With a duration of less than one year, ultra-short bonds have less sensitivity to increasing interest rates than medium- or long-term bond funds. Ultra-short bond funds also have less credit risk when compared to longer-duration bond funds. Although return potential is also lower, an overall lower risk profile can be critical to capital preservation.

Charts are provided for illustrative purposes and are not indicative of the past or future performance of any BNY Mellon product.

Ultra-Short bond funds may play an important role in a client’s asset allocation strategy, generally providing investors with a greater yield than traditional money market funds, with lower market risk than other bond funds. Unlike longer-term bond funds, ultra-short products typically hold securities for a period of between 3 and 12 months.

Ultra-short bonds come into their own when interest rates are expected to rise as they are less susceptible to rate increases.

Current market context

With US GDP rising to levels above those seen prior to the global COVID-19 pandemic in the second quarter of 2021 and inflation already above the 2% target rate, the US Federal Reserve (Fed) has started discussing how and when to taper its asset purchases and is expected to communicate its decision over the coming months. We spoke to Sebastian Vismara, economist with BNY Mellon’s Global Economics and Investment Analysis team, to get his views.

“The last time we experienced tapering – May 2013 – the response from the market was immediate, and we saw a spike in sovereign bond yields and a sharp rise in volatility across fixed income and equity markets.

This time around there is a key difference: the 2013 taper was a relative surprise, while now the market is largely expecting it, and the Fed has learnt from past mistakes and will make it very clear that policy will remain loose for some time to come.

More broadly, there are a number of potential scenarios that could play out based on the post-pandemic economic recovery.”

Scenario 1: Good Recovery
The Fed begins tapering in early 2022, with quantitative easing (QE) finishing later that year or at the start of 2023, and the first rate rise takes place at around the same time. In this scenario, we would expect bond yields to rise moderately following the announcement.

Scenario 2: Tight Money
The Fed views the inflationary pressures as persistent and announces tapering as early as the end of 2021 and rate rises shortly after. We feel this would be a surprise for the market and think real interest rates would rise to bring down inflation, overshooting to the upside.

Scenario 3: Overheating
The Fed maintains a looser policy stance for longer. The subsequent rise in yields would thus be strong but steady, with less of an overshoot higher in interest rates in the near term, as the market gradually prices in future tightening of monetary policy.

Scenario 4: Bad recovery
New variants of Covid-19 disrupt the economic recovery resulting in a decline in growth, inflation and yields.

The team’s view is that scenario 1 is the single most likely, and the resulting market environment could be an opportunity for ultra-short bonds.

Introducing the BNY Mellon Ultra Short Income ETF – BKUI

Learn more

1 The fund is not a money market fund and is not subject to the liquidity requirements and investment and credit quality restrictions applicable to money market funds. There can be no guarantee that the fund will generate higher returns than money market funds.


Duration – the measure of sensitivity of the price of a bond to a change in interest rates Quantitative easing (QE) – a type of monetary policy in which a central bank buys longer-term securities from the open market in order to increase money supply and encourage lending and investment

Taper/tapering – this term refers to the modification of central bank activities. Following a period of QE, tapering involves the slowing of asset purchases to reverse QE policies

Ultra-short bonds – a bond with a maturity of typically one year or less

Investors should consider the investment objectives, risks, charges, and expenses of a fund carefully before investing. To obtain a prospectus, or a summary prospectus, if available, that contains this and other information about a fund, investors should contact their financial professional or visit

Investors should read the prospectus carefully before investing.

ETF shares are listed on an exchange, and shares are generally purchased and sold in the secondary market at market price. At times, the market price may be at a premium or discount to the ETF's per share NAV. In addition, ETFs are subject to the risk that an active trading market for an ETF's shares may not develop or be maintained. Buying or selling ETF shares on an exchange may require the payment of brokerage commissions. ETFs trade like stocks, are subject to investment risk, including possible loss of principal. The risks of investing in the ETF typically reflect the risks associated with the types of instruments in which the ETF invests. Diversification cannot assure a profit or protect against loss.

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Bonds are subject to interest rate, credit, liquidity, call and market risks, to varying degrees. Generally, all other factors being equal, bond prices are inversely related to interest-rate changes and rate increases can cause price declines.

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