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Use Bonds as a Safety Mechanism Rather Than a Profit Generator

This article was originally published on ETFTrends.com.

As positive news from a U.S.-China trade deal is lifting stocks up, it’s been bringing bonds down as yields rise in reaction to the strength in the major U.S. indexes. Still, bonds can provide investors with a safety mechanism when times get rough, they shouldn’t use them to as a prime profit generator.

As volatility flooded the equities market, investors fled to the safety of bonds, causing yields to fall sharply—in most cases below 2%, unless investors wanted more duration risk via long-term bonds.

“With interest rates already low, further big gains are improbable,” wrote Carla Fried in the New York Times. “But bonds are still likely to deliver on their crucial role as portfolio stabilizers when stocks fall. Expect protection, not big profits.”

One thing Fried reminded investors is the inverse relationship of bond prices and yields. This is especially important to note if investors want bond exposure via exchange-traded funds (ETFs).

“If you’re not a bond maven, it’s worth remembering that fund and ETF returns are the sum of the interest earned on the bonds and the changes in the prices of those bonds. When interest rates fall, bond prices rise,” Fried wrote. “That’s why the slump in rates unleashed big price gains in 2019 — and why a rise in rates would hurt bondholders.”

Investors looking to get core bond exposure can use the iShares Core U.S. Aggregate Bond ETF (AGG) , which is the big fish in an even bigger sea of bond exchange-traded funds (ETFs).

What’s under the hood of this ETF that gives investors the much-needed core bond exposure, especially in today’s volatile market?

Fund Facts:

  • AGG seeks to track the investment results of the Bloomberg Barclays U.S. Aggregate Bond Index.
  • The index measures the performance of the total U.S. investment-grade bond market.
  • The fund generally invests at least 90% of its net assets in component securities of its underlying index and in investments that have economic characteristics that are substantially identical to the economic characteristics of the component securities of its underlying index.

Reasons to use AGG:

  • Broad exposure to U.S. investment-grade bonds
  • A low-cost easy way to diversify a portfolio using fixed income
  • Use at the core of your portfolio to seek stability and pursue income

Investors have no doubt been piling in on bonds the last couple of months given the stomach-churning market movements seen in U.S. equities thanks to U.S.-China trade wars and inverted yield curves. Bonds have always been the default safe haven asset when it comes to seeking shelter from volatility, but it can be a daunting task to find opportunities in the bond markets.

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