Why Invest with Bond ETFs

Investors have a number of bond ETF options available at their fingertips. Some bond ETFs target specific areas like corporate debt, U.S. Treasuries and specific credit ratings or maturities while others may include broad diversified portfolios of almost everything.

Additionally, with bond ETFs, investors will enjoy diversification as many funds hold hundreds if not thousands of individual bond securities, something that would be hard to achieve on one’s own.

While most bond ETFs passively track a benchmark index, there is still a management component in the way the funds are run. Tucker points out that a portfolio manager must build and maintain a portfolio that seeks to track the index with the securities available, but some securities are thinly traded or illiquid. If the PM is doing his or her job correctly, the ETF will closely track the underlying index.

Tucker also warned of some fallacies associated with going the individual debt securities path. For instance, some investors assume that buying a bond security is basically free since one just trades it at a price. However, Tucker pointed out that there can be fairly hefty transaction costs that are baked into the asking price. Standard & Poor’s estimates that investors pay a 1.27% transaction cost when acquiring municipal debt and costs for other fixed income sectors are similar.

In contrast, passive bond ETFs have an average 0.35% expense ratio, according to XTF data. Investors would only have to worry about the brokerage commission fees on ETF trades, like stock trades, but there are some brokerage platforms that offer commission free trades.