While investors can hold multiple debt issues in order to get core bond exposure, exchange traded funds (ETFs) like those available from Vanguard offer a way to minimize transaction costs associated with bonds.
“No matter where you decide to buy or sell your bonds, you should be prepared to pay a transaction cost,” a Morningstar article explained. “The costs you will pay depend on the market on which you buy your bonds.”
“The difference between the price a broker-dealer pays for a bond and the price at which it is sold to you is known as the bond’s markup,” the article added. “The markup is a transaction cost. With new issues, the broker-dealer’s markup is included in the par value, so you do not pay separate transaction costs.”
The cost can also amplify when bonds are sold before their maturity date.
“If you sell a bond before it matures, you may receive more or less than the par value of the bond,” the article explained further. “Either way, your broker-dealer will mark down the price of your bond, paying you slightly less than its current value. He or she will then mark up the price slightly upon resale to another investor. This is how broker-dealers are compensated for maintaining this active secondary market.”
“Bonds bought on the exchanges generally have much higher markups than bonds bought over the counter,” the article continued. “It is difficult to know how much of a markup you are paying, because the markup is built into the price of the bond.”
A Pair of Options
Vanguard offers a plethora of ETFs to obtain core exposure to bonds both domestically and internationally. Getting international exposure offers bond investors diversification from debt markets abroad.
For bond exposure in the U.S., there’s the Vanguard Total Bond Market Index Fund ETF Shares (BND). BND seeks the performance of Bloomberg Barclays U.S. Aggregate Float Adjusted Index. The Bloomberg Barclays U.S. Aggregate Float Adjusted Index represents a wide spectrum of public, investment-grade, taxable, fixed income securities in the United States, including government, corporate, and international dollar-denominated bonds, as well as mortgage-backed and asset-backed securities, all with maturities of more than 1 year.
For international markets, there’s the Vanguard Total World Bond ETF (BNDW). BNDW seeks to track the performance of the Bloomberg Barclays Global Aggregate Float Adjusted Composite Index that measures the investment return of investment-grade U.S. bonds and investment-grade non-U.S. dollar-denominated bonds.
For more news, information, and strategy, visit the Fixed Income Channel.