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By Christine Benz and Eric Jacobson | 10-31-2013 09:30 AM

What's Your Bond Fund Getting Into?

Active bond-fund managers are deviating from the Barclays Aggregate Index, but the index itself has also changed, says Morningstar's Eric Jacobson.

Christine Benz: Hi. I'm Christine Benz for

The Barclays Aggregate Index is the key benchmark for core intermediate-term bond funds, but increasingly the typical intermediate-term bond fund looks nothing like the index. Joining me to discuss that topic is Eric Jacobson. He's a senior fund analyst with Morningstar.

Eric, thank you so much for being here.

Eric Jacobson: Sure, Christine, glad to be with you.

Benz: Eric, let's discuss how funds are looking different from the index. What types of fund are making these bets, and what types of bets are they making?

Jacobson: I would point out that a lot of them are funds that we tend to highlight and tend to be well-known and popular with investors. What several of them are doing is staying a little bit shorter in terms of their duration, and owning more and more things outside the index.

One notable exception would be PIMCO Total Return, which came into the latest rate sell-off with a much longer duration than many of its peers and was longer than the benchmark. Unfortunately, Bill Gross was just wrong about what he thought was going to happen in terms of the tapering and the language that surrounded it.

But the other funds that I'm thinking of--for example, Metropolitan West Total Return, Dodge & Cox Income, DoubleLine Total Return Fund, TCW Total Return--almost all of them were pretty well short of the index, and all hold one thing or another, such as residential mortgage-backed securities in the case of MetWest, and some of the funds have more emerging-markets exposure. PIMCO, even though as I said they sold off pretty badly, that was one of the areas that they have gone outside the index.

So, you're seeing a lot of managers trying to not only bring the durations down a little bit, but find other areas of return.

Benz: So they're not emphasizing Treasury and other government-backed bonds to the same extent that the index is?

Jacobson: Absolutely.

Benz: You note that apart from the actions that managers are taking, the index itself has also changed in terms of its composition and its duration. Let's discuss how that fits into all of this.

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