Wednesday, July 27, 2011

What's the Best Bond Index ETF - BND, AGG or LAG?

Most ETF investors look for a single holding to gain exposure to a given sector. That's certainly true for many bond ETF investors. I know I look for one fund to give me the most exposure to the entire bond universe at a low cost. For wide-spread exposure to the major areas of the bond universe, you're looking at 3 big name ETFs:

Here's my analysis of how each of these measures up on the following criteria...

Performance Chart.

Click for full version

As you can see from the chart above, all 3 ETFs have a very close parity with one another. This is to be expected since they each track the same underlying index. BND is the smoothest ride, with the least volatility, but it looks like LAG has a slight edge on the others however.

This round is awarded to LAG.

Expense Ratio.

As you can see from the chart above, it's a pretty close race to the bottom for expense ratios, but BND is again the winner here with an exp ratio of 0.11%. That's a full 0.09% less than AGG's 0.20% and even lower than LAG 's 0.13%.

ETF DB prefers LAG, but that seems to be based solely on expense ratio, which at the time was lower than both BND and AGG. At the time of this writing however, the clear winner in expense ratio is BND.


Another important metric of a bond ETF is its overall yield. After all, you're investing in bonds and bond ETFs to earn interest and generate income, right?

Here's how these 3 ETFs stack up on yield:

As you can see here, the appropriately named SPDR ETF LAGs (2.78%) behind BND (3.31%) and AGG (3.39%) in terms of yield. The winner in this round is clearly AGG, but it's a close one.

Asset Diversification.

Another aspect of any ETF or mutual fund I like to examine is the concentration of the underlying assets. For example, if an ETF holds 25% or more of its assets in one stock or one sector, then I know it's going to be more volatile and more sensitive to that stock or sector than a similar fund with more diversified holdings.

Here's how these 3 bond ETFs stack up on holdings:

This shows that AGG's top 10 holdings account for 32.75% of total assets, while the top 10 holdings of BND account for 11.19% of total assets, and LAG's top 10 holdings account for 19.58% of total assets.

Who wins? Is larger better or smaller better?

There's no real "right" answer here because it's more of a matter of style or aggressiveness. If you're looking for a smoother overall ride, BND is the winner. If volatility is your friend, AGG might be a better choice.

However, I'm going to award this round to BND based on my belief that most bond and bond ETF investors are looking for stable income, and not trying to play volatility and make a killing buying on the dips and selling on the peaks. For those reasons BND is the winner, since it is the most diversified and offers the least volatile

Trading Volume.

Finally, one more important aspect of any ETF is its trading volume. This is a measure of how many shares trade hands in a given day.

Here's a chart of average trading volume for the last 3 months:

884,821 shares of AGG trade every day, and 878,814 shares of BND trade every day (on average, over the past 3 months) while a paltry 34,149 shares of LAG are traded daily.

AGG and BND are pretty close, while LAG is left in the dust. What this means is that you may have a harder time getting your asking price when selling shares of LAG than you would selling shares of BND or AGG.

The winner in this round is AGG.

Overall best bond ETF is....

I'm awarding this title to BND. It's the clear winner in the categories that matter most: performance, expense ratio and diversification. It doesn't quite pull out a win on yield, but it's close. AGG is a respectable second, but the difference in yield is not enough to make up for the higher expense ratio and increased volatility in my mind. LAG is just late to the party and I'm not sure it brings enough to be a game changer frankly.


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