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Beware of Rate Risk in Passive Core Bond Funds

Karin Anderson

Passive funds in the intermediate-term bond Morningstar Category come with a built-in safety net of low fees, typically clocking in at about 10 basis points, compared with a broad Morningstar Category median of 68 basis points. They also carry less credit risk than their typical competitors, making them reliable diversifiers during periods of credit stress.

However, they’re far from risk-free. Heavier-than-average exposure to Treasuries and agency debt makes them vulnerable to losses in interest-rate-driven sell-offs.  Vanguard Total Bond Market Index (VBMFX), for example, which tracks the Bloomberg Barclays U.S. Aggregate Bond Index, had a 42% stake in Treasuries and U.S. agency debt recently, which is 10 or 20 percentage points higher than most active funds carry.

Karin Anderson does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.