6 Charts On Where Bond Fund Investors Are Putting Their Money (2024)

Investors have favored bond funds over stock funds for many years, but as interest rates stay elevated, they are shifting where they put their money.

Prior to the big rise in interest rates in 2022, investors gravitated toward short-term and high-yield bond funds. Now, with interest rates higher across the board, investors are choosing safer government and long-term bond funds and taking advantage of high interest rates on money market funds.

Bond Funds Still Preferred Over Stock Funds

Investors fled taxable bond funds last year as rising interest rates led many parts of the bond market to suffer their biggest losses in history. Now, as the market has largely stabilized at those higher yields, investors have returned.

Over the past 12 months, taxable bond funds raked in $111 billion. At the same time, investors pulled $103.1 billion from U.S. equity funds.

In the second quarter of 2023, investors pulled $25.3 billion out of U.S. equity funds while moving a net $72.6 billion into taxable bond funds.

Short-Term Bond Funds Fall Out of Favor

Short-term bond funds once fueled taxable bond inflows. Aside from intermediate-term bond funds, short-term bond funds were the most popular category in 2020 and 2021. Over those two years, they collected $165.1 billion. These funds recorded moderate losses in 2022 as higher interest rates walloped most bond funds. They lost 5.2% on average last year, while intermediate-term funds declined 13.% and long-term funds fell 24.4%.

However, outflows from short-term funds picked up in early 2022 as the Federal Reserve started raising interest rates. In 2022, investors pulled $71.5 billion from short-term funds.

The trend continued into 2023. Short-term bonds are on track to record the largest outflow of any taxable bond Morningstar Category. Over $39.3 billion has left the category this year.

Ultrashort bond funds, which typically have durations under a year, haven’t seen the same exodus. Duration is a measure of interest rate sensitivity, and as the Fed raised rates multiple times last year, ultrashort bonds were hurt less than longer-duration funds, losing 0.14% in 2022.

Now, thanks to the Fed’s rate increases, ultrashort funds are offering higher yields than short-term ones. Ultrashort funds offer an average yield of 5.05% as of Aug. 31, while yields on short-term funds are slightly lower at 4.96%.

“Ultrashort bond funds are still yielding more than their short-term counterparts without the duration risk,” says associate analyst Elizabeth Templeton.

Intermediate-term bonds—common building blocks for portfolios—have yielded less but drawn in money. Over the past year, intermediate-term and intermediate-term core plus funds have collected $146.5 billion, the most of any taxable bond category.

Long-term bond funds yield 5.20% on average, and intermediate-term yields are lower at 4.28%.

“Investors may feel more comfortable taking duration risk in the longer term, which is why intermediate and long-term bond funds are still popular, but they would rather take less near-term duration risk as inflation persists,” says Templeton.

As interest rates have stayed elevated, investors have turned to longer-term funds. Long-government funds were the most popular taxable bond category last year, during which time they hauled in $46.4 billion.

Investors No Longer Reaching for Yield

Along with the move to longer-term funds, investors reversed course on high-yield bond funds as the Fed started raising interest rates. For years, high-yield bonds were one of the places investors could find substantial yield. That’s now not the case, with government bond funds and money market funds yielding more than 5%. The average high-yield bond fund offered an 8.6% yield as of Aug. 31, but investors remain uninterested.

High-yield fund flows turned negative in the first quarter of 2022, and over the past year, investors have pulled $7.4 billion from the category. Similarly, flows to bank loan funds, which were popular in 2021, have dropped off. These funds collected $45.7 billion in 2021, but over $18 billion has left the category over the last year.

Investors have also turned on once-popular inflation-protection bond funds. As inflation picked up in 2021, inflation-protected bonds were popular, taking in $75 billion that year. But in 2022, as these funds still recorded losses, investors started to abandon them. These funds lost 9% on average last year, and investors pulled $21.4 billion from the category. In 2023, $17.4 billion more has left the category.

Investors Take Advantage of Money Market High Yields

Instead of exploring riskier corners of the bond market, many investors are taking advantage of higher yields on money market funds.

The average seven-day yield on a money market fund sits at 4.27%, up from 1.72% a year ago and a mere 0.01% two years ago.

Investors pulled $53.6 billion from money market funds last year but have feverishly returned to them since then. These funds have collected $724 billion this year, outpacing flows to all long-term funds.

Investors particularly flocked to money market funds in the first quarter, after the collapse of some regional banks caused panic over the safety of bank deposits.