ETF Specialist

Diversification for the Sake of Diversification

Samuel Lee
Thomas Boccellari

I don’t know why Vanguard bothered to launch  Vanguard Total International Bond ETF (BNDX), a currency-hedged developed-markets bond fund. When you hedge foreign sovereign bonds, you end up with something that looks a lot like U.S. Treasuries. Vanguard points to some modest historical diversification benefits, but this backward-looking analysis fails to consider how present valuations and economic conditions affect prospective returns and correlations. The fund yields about 1.5% and has a duration of roughly seven years. The Barclays U.S. Aggregate Index, which can be owned through any number of dirt-cheap options, including  Vanguard Total Bond Market ETF (BND), yields a little more than 2% and has a duration of about five years. The fund seems to be a case of diversification for the sake of diversification.

If you're a diehard efficient-market person, the foreign bond index’s lower yield and higher duration must be compensation for some kind of risk-hedging benefit. Of course, this is crazy when you consider the bonds’ modest diversification benefits, low expected returns, and the fact that their sovereign issuers are more indebted and slower-growing than the United States.

Samuel Lee does not own shares in any of the securities mentioned above.
Thomas Boccellari does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.