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ETF Stream’s Jamie Gordon sat down with VettaFi’s Chief Product Officer Brian Coco at ETF Ecosystem Unwrapped 2026 to discuss fixed income indexing and the direction the industry is moving.
How should investors think about the origins of fixed income indexing when evaluating benchmarks as investment vehicles?
Almost all contemporary bond indices were originally designed by investment banks – the dealing houses acting as underwriters and facilitators for institutional clients. These banks were simply responding to market demand. Because banks were the sole entities possessing comprehensive pricing data and analytical capabilities, their asset management clients required a reliable mechanism to track portfolios and benchmark performance.
To fulfil this need, the banks mirrored the architecture of the equity index industry and weighted portfolios by market capitalisation – which, in fixed income, translates directly to debt weighting. While market capitalisation weighting offers clear structural advantages in equities, where a few companies generate the vast majority of wealth, the exact inverse dynamic applies to credit. In fixed income, success is defined by asymmetric downside risk: you win by not losing. Concentrating capital on the most indebted issuers contradicts sound investment theory. It is precisely why active managers have argued for years that traditional benchmarks are broken.
Is a new framework required to define what constitutes a genuinely liquid issuer?
Absolutely. Over the past several years, the ETF vehicle has evolved into the primary price discovery mechanism for credit markets, particularly during market disruptions. Historically, banks structured indices using exclusively “on-the-run” bonds because those were the only issues trading frequently enough to generate reliable price points. Today, however, the expansion of the ETF industry ensures that virtually every bond receives a daily transaction print via TRACE or modelled pricing.
Consequently, the definition of liquidity has shifted from individual bond issues to the total size of the issuer. To construct a liquid index without falling into the debt-weighting trap, we must target these systemically large issuers but weight them via equal-weight matrixes or alternative fundamental methodologies to mitigate concentration risk. This framework allows us to design benchmarks far more deliberately.
What are the primary levers of outperformance that active fixed income managers rely on and can they be captured via an index?
Active managers systematically capture alpha through a few primary structural mechanisms over passive managers, mostly from how index rebalancing is performed. Traditional bond indices rebalance once a month, new debt issues enter and maturing bonds (usually with one year left to maturity) exit at the end of the calendar month.
While the passive managers track returns based on the index rebalancing rules (transaction on the month ends), active managers can generate alpha from the new-issue premium. Primary capital markets desks routinely price new corporate bond offerings at a discount to entice institutional investors. Active managers can also generate alpha by optimizing bond selection including the weights compared to the index, moving away from the traditional market capitalisation weighting.
Another source is illiquidity premium. It is the incremental yield investors earn for accepting reduced trading flexibility. While passive managers may be forced to sell bonds when they no longer meet index eligibility rules, active managers can choose to hold these bonds, potentially avoiding large bid-ask spreads.
The strategies active managers deploy are not rocket science; they can be codified into clear mathematical formulas. If you are designing a liquid benchmark, you want to focus on having a liquid set of issuers and then ultimately allowing the most freedom of choice for those managers.
Every indexed ETF is actually an active ETF because no one can fully replicate the underlying index – they have to sample it and there is a lot of skill involved in that sampling. An active manager is judged on total return. A passive manager is judged on tracking error. And tracking error is actually a lot harder to mitigate than just outperforming the benchmark.
Additionally, the benefit of an index delivery wrapper is transparent accountability. We can present verifiable back-tests and demonstrate to investors precisely where the alpha originates, empowering financial advisors and retail investors to construct target portfolios that accurately match their risk-reward profiles.
Are there any themes that show significant potential for fixed income indexing?
Within the investment grade universe in both the US and Europe, there are plenty of issuers available to build smaller, more deliberate portfolios. It is a bit tougher in high yield, where there are more issuers with one or two bonds. Emerging markets also work well within the US dollar versions. It is all about building the widest possible starting universe portfolio and then being deliberate in how you deliver the targeted exposures.
Looking at themes, the global economy is shifting rapidly due to the pace of AI disruptions, altering corporate balance sheets just as heavily on the debt side as it does on the equity side. Consider the massive capital expenditure cycles of AI hyperscalers such as Meta and Amazon. Because these firms are solid Single-A corporate credits, yet trade cheap at BBB equivalent credit spreads due to heavy supply, they present an extraordinary structural entry point.
Investors can access cash-generative technology leaders at an attractive yield premium. For the ETF indexing industry, our mandate is to deliver these precise exposures to the market, giving investors targeted choice.
As indexing methodologies evolve, do you anticipate more precision tools and thematic strategies coming to market within fixed income?
I do expect more fixed income thematic strategies to emerge, though they may be broader in nature, such as cyclical versus defensive allocations, rather than single-theme or single-sector plays. The rise of wealth management has accelerated the demand for independent financial advice, and advisors excel at utilising highly targeted exposures. As opposed to relying on a generic 60-40 strategy, they choose specific investment styles, seeking precise global, US, European, or Asian exposures, as well as growth and value factors.
The same logic applies to fixed income. Allocators want diverse global exposures and highly targeted target-date funds broken down by government, investment-grade, and high-yield sleeves to meet critical life goals. For example, if an investor has a child entering college in a few years and requires capital in 2032, they can buy a matching 2032 target-date fund. There is a clear, growing requirement to construct precise instruments that directly align with these specific investor objectives.
ETF Stream’s Jamie Gordon sat down with VettaFi’s Chief Product Officer Brian Coco at ETF Ecosystem Unwrapped 2026 to discuss fixed income indexing and the direction the industry is moving.
How should investors think about the origins of fixed income indexing when evaluating benchmarks as investment vehicles?
Almost all contemporary bond indices were originally designed by investment banks – the dealing houses acting as underwriters and facilitators for institutional clients. These banks were simply responding to market demand. Because banks were the sole entities possessing comprehensive pricing data and analytical capabilities, their asset management clients required a reliable mechanism to track portfolios and benchmark performance.
To fulfil this need, the banks mirrored the architecture of the equity index industry and weighted portfolios by market capitalisation – which, in fixed income, translates directly to debt weighting. While market capitalisation weighting offers clear structural advantages in equities, where a few companies generate the vast majority of wealth, the exact inverse dynamic applies to credit. In fixed income, success is defined by asymmetric downside risk: you win by not losing. Concentrating capital on the most indebted issuers contradicts sound investment theory. It is precisely why active managers have argued for years that traditional benchmarks are broken.
Is a new framework required to define what constitutes a genuinely liquid issuer?
Absolutely. Over the past several years, the ETF vehicle has evolved into the primary price discovery mechanism for credit markets, particularly during market disruptions. Historically, banks structured indices using exclusively “on-the-run” bonds because those were the only issues trading frequently enough to generate reliable price points. Today, however, the expansion of the ETF industry ensures that virtually every bond receives a daily transaction print via TRACE or modelled pricing.
Consequently, the definition of liquidity has shifted from individual bond issues to the total size of the issuer. To construct a liquid index without falling into the debt-weighting trap, we must target these systemically large issuers but weight them via equal-weight matrixes or alternative fundamental methodologies to mitigate concentration risk. This framework allows us to design benchmarks far more deliberately.
What are the primary levers of outperformance that active fixed income managers rely on and can they be captured via an index?
Active managers systematically capture alpha through a few primary structural mechanisms over passive managers, mostly from how index rebalancing is performed. Traditional bond indices rebalance once a month, new debt issues enter and maturing bonds (usually with one year left to maturity) exit at the end of the calendar month.
While the passive managers track returns based on the index rebalancing rules (transaction on the month ends), active managers can generate alpha from the new-issue premium. Primary capital markets desks routinely price new corporate bond offerings at a discount to entice institutional investors. Active managers can also generate alpha by optimizing bond selection including the weights compared to the index, moving away from the traditional market capitalisation weighting.
Another source is illiquidity premium. It is the incremental yield investors earn for accepting reduced trading flexibility. While passive managers may be forced to sell bonds when they no longer meet index eligibility rules, active managers can choose to hold these bonds, potentially avoiding large bid-ask spreads.
The strategies active managers deploy are not rocket science; they can be codified into clear mathematical formulas. If you are designing a liquid benchmark, you want to focus on having a liquid set of issuers and then ultimately allowing the most freedom of choice for those managers.
Every indexed ETF is actually an active ETF because no one can fully replicate the underlying index – they have to sample it and there is a lot of skill involved in that sampling. An active manager is judged on total return. A passive manager is judged on tracking error. And tracking error is actually a lot harder to mitigate than just outperforming the benchmark.
Additionally, the benefit of an index delivery wrapper is transparent accountability. We can present verifiable back-tests and demonstrate to investors precisely where the alpha originates, empowering financial advisors and retail investors to construct target portfolios that accurately match their risk-reward profiles.
Are there any themes that show significant potential for fixed income indexing?
Within the investment grade universe in both the US and Europe, there are plenty of issuers available to build smaller, more deliberate portfolios. It is a bit tougher in high yield, where there are more issuers with one or two bonds. Emerging markets also work well within the US dollar versions. It is all about building the widest possible starting universe portfolio and then being deliberate in how you deliver the targeted exposures.
Looking at themes, the global economy is shifting rapidly due to the pace of AI disruptions, altering corporate balance sheets just as heavily on the debt side as it does on the equity side. Consider the massive capital expenditure cycles of AI hyperscalers such as Meta and Amazon. Because these firms are solid Single-A corporate credits, yet trade cheap at BBB equivalent credit spreads due to heavy supply, they present an extraordinary structural entry point.
Investors can access cash-generative technology leaders at an attractive yield premium. For the ETF indexing industry, our mandate is to deliver these precise exposures to the market, giving investors targeted choice.
As indexing methodologies evolve, do you anticipate more precision tools and thematic strategies coming to market within fixed income?
I do expect more fixed income thematic strategies to emerge, though they may be broader in nature, such as cyclical versus defensive allocations, rather than single-theme or single-sector plays. The rise of wealth management has accelerated the demand for independent financial advice, and advisors excel at utilising highly targeted exposures. As opposed to relying on a generic 60-40 strategy, they choose specific investment styles, seeking precise global, US, European, or Asian exposures, as well as growth and value factors.
The same logic applies to fixed income. Allocators want diverse global exposures and highly targeted target-date funds broken down by government, investment-grade, and high-yield sleeves to meet critical life goals. For example, if an investor has a child entering college in a few years and requires capital in 2032, they can buy a matching 2032 target-date fund. There is a clear, growing requirement to construct precise instruments that directly align with these specific investor objectives.
