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8 Incredibly Low-Risk Bond Funds

Risk, schmisk: These mild-mannered funds have exhibited minuscule drawdowns over the past 10 years. 

Russel Kinnel, 02/27/2017

Low-risk bond funds are a handy thing. If you are putting away money for a near-term expenditure like tuition in a couple of years or a house in three years, low-risk bond funds, along with money markets and certificates of deposit, can serve a valuable purpose.

But you don't want to make them a big part of a long-term portfolio, as they might not even keep up with inflation. I'd hate to see a 401(k) with 30% in a low-risk bond fund.

I set out to find some really low-risk funds by ranking Morningstar 500 funds by their maximum drawdown since Feb. 1, 2007. I wanted to be sure to capture multiple periods of credit blowups and rising rates, though there hasn't been a lot of the latter over the past 10 years.

Max drawdown is often a better measure than downside capture because it is measured in absolute terms. It tells you the most a fund lost over any stretch of time. For benchmarking purposes, Vanguard Total Bond Market Index VBTLX had a 10-year drawdown of 3.94%--meaning the worst you could have done was lose 3.94%. Vanguard Total Stock Market Index VTSAX had a max drawdown of 50.84%. High-yield funds had drawdowns of about 30%, so you can see how much credit risk can sting.

By ranking on max drawdown, I found eight bond funds with max drawdowns of between 0.65% and 2.56%. That's pretty comforting. The whole group got there by taking very little credit or interest-rate risk. Here are the eight mild-mannered bond funds:

Vanguard Short-Term Tax-Exempt VWSTX 
Max Drawdown: 0.65%

Morningstar Analyst Rating: Silver
This fund is just a hair riskier than a money market fund. Its portfolio is about one third money market instruments and two thirds short-term munis. It's low-risk even relative to its mild peer group: muni-national short. So, it will have middling to lagging results most years but lose less in down years. It's expense ratio--a huge deal for low-risk bond funds--is just 0.19%.

FPA New Income FPNIX 
Max Drawdown: 0.85%
Morningstar Analyst Rating: Bronze

If you aren't familiar with FPA, you might be surprised to see a non-traditional-bond fund on this list. However, Tom Atteberry and his predecessor Bob Rodriguez are obsessed with capital preservation. In theory, they can take on more credit and interest-rate risk if the bond market has appealing issues on offer, but in practice it's been a long time since the fund did that.

Vanguard Short-Term Federal VSGBX 
Max Drawdown: 1.12%
Morningstar Analyst Rating: Silver

This fund doesn't have credit risk but it has a slight amount of interest-rate risk. The fund's duration of 2.35 years is a full year greater than the funds above it on this list. Even so, its risks are pretty darn low, as are its fees.

Russel Kinnel is Morningstar's director of mutual fund research. He is also the editor of Morningstar FundInvestor, a monthly newsletter dedicated to helping investors pick great mutual funds, build winning portfolios, and monitor their funds for greater gains. (Click here for a free issue). Mr. Kinnel would like to hear from readers, but no financial-planning questions, please. Follow Russel on Twitter: @russkinnel.

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