Finding the best U.S. Total Bond ETF

 

Introduction

While stocks are a key component of most portfolios, bonds are equally essential for long-term investments. There are various types of bonds: government, corporate, municipal, and international bonds (issued by non-U.S. entities). Bonds are also categorized by credit ratings, such as investment-grade (AAA, AA, A, BBB) and non-investment-grade, also called high-yield or junk bonds (BB or below). Based on maturity, bonds can be short-term (less than one year), intermediate-term (one to ten years), or long-term (more than ten years).

Although countless bond combinations exist, most portfolio investors prefer broad exposure to bonds rather than focusing on specific segments. There are several indices that track the entire U.S. bond market, along with popular ETFs that follow them. In this article, we’ll explore these indices and identify the best ETF option.

U.S. Total Bond Indices

Before comparing ETFs, it's important to understand that they track different indices, each with slight variations. The three popular U.S. total bond indices are:

1. Bloomberg U.S. Aggregate Bond Index
2. Bloomberg U.S. Aggregate Float Adjusted Index
3. Bloomberg U.S. Universal Bond Index 

The main difference between the first two indices is that the Float-Adjusted Index adjusts for corporate actions, such as mergers and acquisitions, by reflecting the actual outstanding amount of each bond. However, this difference is minimal in practice, so we’ll treat them as equivalent for the purpose of this discussion. Now, let's explore the difference between the second and third indices.

(1) Bloomberg U.S. Aggregate Float Adjusted Index

Source: www.morningstar.com; BND basis

This index focuses on investment-grade bonds, with allocations of 50.4% in government bonds and 25.8% in agency bonds, and 22.0% in corporate bonds, based on BND data as of Sep 26, 2024. The remaining 1.8% consists of cash, equivalents, and municipal bonds. All holdings are investment-grade, with 71.5% rated AAA, 15.5% rated AA to A, and 13.0% rated BBB.

(2) Bloomberg U.S. Universal Bond Index

Source: www.morningstar.com; FBND basis

This index encompasses a broader array of investment-grade bonds, including 34.4% government bonds, 30.6% corporate bonds, and 28.4% mortgage-backed securities (MBS), based on FBND data as of Sep 26, 2024. The remaining 6.5% includes cash & equivalents, municipal bonds, and minor derivatives positions. A significant 92.3% of its holdings are investment-grade, with 63.8% rated AAA, 11.6% rated AA to A, and 16.8% rated BBB. The remaining 7.7% consists of BB, B, and non-rated bonds.

Both bond indices are popular among investors. The choice between the two will depend on individual preferences for exposure to corporate bonds and MBS, as well as tolerance for slightly lower overall credit quality in their bond portfolios.

Best ETF Candidates

AUM = Assets Under Management; ADTV = Average Daily Trading Volume (# of shares);

A/R = Annualized Return; TER = Total Expense Ratio

I selected the four best ETF candidates for U.S. total bonds and compared them across 5 key parameters: (1) AUM: the larger, the better (more reliable), (2) ADTV: the higher, the better (more liquid), (3) Price: the lower, the better (more affordable), (4) A/R: the higher, the better (ETFs tracking the same index should have same returns, but sometimes discrepancies arise, so this serves as a rationality check), and (5) TER: the lower, the better (less costly). I’ve highlighted the best performer in each category in green and the worst in orange to help you quickly identify the differences.

Comparison

• Assets under Management: AGG (iShares Core U.S. Aggregate Bond ETF) and BND (Vanguard Total Bond Market ETF) are tied in size. The other two ETFs are substantially smaller.
• Daily Trading Volume: AGG slightly outperformed BND, but the difference was not significant.
• Share Price: FBND (Fidelity Total Bond Market ETF) and SCHZ (Schwab U.S. Aggregate Bond ETF) have lower prices compared to AGG and BND yet all four ETFs are considered affordable.
• Annual Returns: Although all 4 ETFs experienced losses over the past five years, FBND performed slightly better relative to the others. Since FBND tracks the Bloomberg U.S. Universal Bond Index, which has greater exposure to corporate bonds and MBS with slightly lower credit quality than government bonds, its relatively higher return is understandable.
• Expense Ratio: FBND has a significantly higher total expense ratio (TER) of 0.36%, while the other three ETFs share a much lower TER of 0.03%.

Conclusion

AGG (iShares Core U.S. Aggregate Bond ETF) and BND (Vanguard Total Bond Market ETF) are both excellent choices, boasting the largest AUM, ADTV, and the lowest expense ratios. All of their holdings are investment-grade, with approx. 87% rated AAA to A and only 13% rated BBB.

Investors may consider FBND (Fidelity Total Bond Market ETF) if they prefer less concentration in government bonds and seek more diversified exposure. However, it's important to note that FBND has a significantly higher expense ratio, which might be offset by its slightly higher returns.

Thanks for reading. I wish you success in making smart investments!

This blog does not offer investment, financial, or advisory services. The information provided herein is for general informational purposes only and should not be interpreted as advice for making specific investment decisions. All investments involve risk, and past performance is not indicative of future results. It is advisable to consult with a qualified financial advisor to determine strategies or products that are appropriate for your individual circumstances. The owner, writer, or operator of this blog accepts no responsibility for any direct or indirect losses that may arise from the use of or reliance on the content presented. The information provided on this blog is subject to change and may not be current. The content is based on personal opinions, as well as information from news sources and research, and may vary due to shifts in personal opinions, financial market conditions, or other influencing factors. Most data referenced is derived from daily closing prices. Data finding, sorting, graphing, and analysis are performed primarily by myself, and while efforts are made to ensure accuracy, errors may be present. If you identify any inaccuracies, please inform me via comments or email, and I will endeavor to review and correct them as necessary. External content or images will be cited to the best of my ability.