Following the banner year for stocks, investors are reducing their risk profiles and adding a healthy dose of bonds to their portfolios. Exchange-traded bond funds saw the lion's share of net inflows through 2009, a trend which is continuing into 2010. There are currently 91 bond fund ETFs holding $106 billion in investor money, up from $57 billion just a year ago. With new products from PIMCO, iShares and the other major ETF sponsors the trend is sure to continue.

IN PICTURES: 10 Retirement-Wrecking Moves

Why Bond ETFs?
Bonds are gaining in popularity due to their placement in bankruptcy proceedings. As investors are toning down their risk, being higher on the food chain, so to speak, fixed income investing is one way to do this. In a worst-case scenario such as bankruptcy, the creditors and bondholders usually get at least some of their money back, while shareholders often lose their entire investment. Bonds can also be very efficient at smoothing out volatility and preserving capital. The regular income distributions bonds generate help cushion downside while still providing upside. Investors are flocking to bond ETF for their tax efficiency, low operating costs and transparency of ownership. These ETFs often make quarterly distributions, rather than semi or annual payments, unlike individual debt offers. The diversification benefits alone make ETFs one of the best investment vehicles out there for both institutional and retail investors. (Fixed-income investments can be part of your portfolio at any age. Find out how. Read Bonds For Every Stage Of Life.)

A Simple Fixed-Income Portfolio
While a broad based "catch all" bond ETF such as the iShares Barclays Aggregate Bond (NYSE: AGG), which owns 271 various bonds is a good low-cost choice for many portfolios, investors wanting to take a more hands-on approach to their fixed-income assets have several choices. Investors wanting to take full advantage of the various credit types and maturity timelines can build a quality portfolio that will keep up with rising interest rates and throw off enough income. Here is a simple fixed-income approach using some of the more popular and cheaper funds.

Bond ETF Choices
It's almost a guarantee that the Federal Reserve will raise interest rates sometime in the near future, although the next date is uncertain. In order to take advantage of this fact, investors should keep their maturities short. These short term bonds lose less than bonds of longer timelines. Corporate bonds traditionally pay larger coupons due to their "riskier' nature. The iShares Barclays 1-3 Year Credit Bond (NYSE: CSJ) follows 598 different short term investment grade corporate, and non-U.S. Agency bonds. The fund currently yields 3%, but as rates rise, so will the ETF's yield. A dose of short term United States Treasury bonds from the iShares Barclays 1-3 Year Treasury (NYSE: SHY) will help ratchet the safety level.


Just as the U.S government issues treasury bonds, so do other nations around the world. Adding a weighting of these international bonds will help protect the portfolio against a potentially falling dollar. The SPDR Barclays Capital International Treasury (NYSE: BWX) holds 84 bonds from various places around the globe including Canada, Germany and Japan. The fund currently yields 2.37%.

With the worst of the recession behind us, adding a weighting of high-yielding junk bonds makes sense as a growing economy should help keep defaults at a minimum. This fund will also bring up the overall income yield of the portfolio. The SPDR Barclays Capital High Yield Bond (NYSE: JNK) fits the bill.

Bottom Line
It seems these days that everyone is adding a bigger percentage of bonds to their portfolio. ETFs make it easy to add diverse fixed-income assets to a portfolio. The preceding bond ETFs are a good example of a starter bond allocation. (Learn more in An Introduction To Corporate Bond ETFs.)

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Investing

    How to Ballast a Portfolio with Bonds

    If January and early February performance is any guide, there’s a new normal in financial markets today: Heightened volatility.
  2. Stock Analysis

    Performance Review: Emerging Markets Equities in 2015

    Find out why emerging markets struggled in 2015 and why a half-decade long trend of poor returns is proving optimistic growth investors wrong.
  3. Investing News

    Today's Sell-off: Are We in a Margin Liquidation?

    If we're in market liquidation, is it good news or bad news? That party depends on your timeframe.
  4. Investing News

    Bank Stocks: Time to Buy or Avoid? (WFC, JPM, C)

    Bank stocks have been pounded. Is this the right time to buy or should they be avoided?
  5. Stock Analysis

    Why the Bullish Are Turning Bearish

    Banks are reducing their targets for the S&P 500 for 2016. Here's why.
  6. Stock Analysis

    How to Find Quality Stocks Amid the Wreckage

    Finding companies with good earnings and hitting on all cylinders in this environment, although possible, is not easy.
  7. Chart Advisor

    How Are You Trading The Breakdown In Growth Stocks? (VOOG, IWF)

    Based on the charts of these two ETFs, bearish traders will start turning their attention to growth stocks.
  8. Mutual Funds & ETFs

    Pimco’s Top Funds for Retirement Income

    Once you're living off the money you've saved for retirement, is it invested in the right assets? Here are some from PIMCO that may be good options.
  9. Chart Advisor

    Watch This ETF For Signs Of A Reversal (BCX)

    Trying to determine if the commodity markets are ready for a bounce? Take a look at the analysis of this ETF to find out if now is the time to buy.
  10. Investing News

    What You Can Learn from Carl Icahn's Mistakes

    Carl Icahn has been a stellar performer in the investment world for decades, but following his lead these days could be dangerous.
RELATED FAQS
  1. Should mutual funds be subject to more regulation?

    Mutual funds, when compared to other types of pooled investments such as hedge funds, have very strict regulations. In fact, ... Read Full Answer >>
  2. What are the maximum Social Security disability benefits?

    The average Social Security disability benefit amount for a recipient of Social Security Disability Insurance (SSDI) in 2 ... Read Full Answer >>
  3. Do ETFs pay capital gains?

    Exchange-traded funds (ETFs) can generate capital gains that are transferred to shareholders, typically once a year, triggering ... Read Full Answer >>
  4. How do real estate hedge funds work?

    A hedge fund is a type of investment vehicle and business structure that aggregates capital from multiple investors and invests ... Read Full Answer >>
  5. Are Vanguard ETFs commission-free?

    While some Vanguard exchange-traded funds (ETFs) are available commission-free from third-party brokers, a large portion ... Read Full Answer >>
  6. How do I calculate the future value of an annuity?

    When planning for retirement, it is important to have a good idea of how much income you can rely on each year. There are ... Read Full Answer >>
COMPANIES IN THIS ARTICLE
Trading Center