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Why are many bond ETFs just like a worse-performing S&P? Question
There is a common notion that bonds and stocks hedge each other: When business is not going well, companies borrow money to make up for sales and investments drying up, and government (especially Keynesian) tends to intervene with public works (paid for by borrowing money from the public) in a bid to revitalize the economy.
However, it seems like a lot of busywork to actually pick individual bonds and keep track of their maturation dates. For the lazy investor, ETFs are supposed to solve this problem - you just buy an ETF with bond exposure and someone else manages the day to day of maintaining a bond portfolio.
In practice, when I look at major bond ETFs like AGG, they follow the S&P very closely. They have the same shape, the same dips, except vertically compressed so that there is none of the upward trend of the S&P. That doesn't look like a hedge, that looks like a waste of money. What's going on here?
Has the market changed in recent years so that bonds have become correlated? Or are bond ETFs just not as good as picking your own bonds?
1 answer
This is a "recent" phenomenon.
If you look back to 1900, bonds have a lower return on average, but in stock drawdowns they maintain a positive performance. Around 2000, they became correlated. Coincidentally, the question was prompted by looking at the past 20 years of data.
I saw some literature claiming that this is due to new monetary policy - low interest rates have caused bonds to track stocks, perhaps due to the practice of using cheap debt to inflate stock price with buybacks. I can't seem to find it now, so make of that what you will. If someone has a source for this, I would appreciate an edit/comment.
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