How NOT to Invest in Bonds
Many people invest in fixed income through a Vanguard bond fund or an iShares bond ETF. These funds offer weak returns and lack the many advantages of owning individual bonds. Many investors compound this problem by investing in bond funds through their financial advisors who charge 1% of client assets for the ‘service’ of placing clients into underperforming bond funds. Here’s how this works to benefit the financial advisor and Vanguard, but not the end investor:
Investment Mistake #1:
Investor invests $100k fixed income portfolio through a financial advisor not 'savvy' in bonds.
Investment Mistake #2:
Financial advisor, lacking any bond investing expertise, takes 1% annual fee and places $100k into a mega Vanguard bond fund, which, in turn, charges more fees.
An investor return lower than inflation
Due to the weak returns of Vanguard bond funds and the 1% annual financial advisor fees, the investor earns less return on his $100k investment than his advisor makes on annual fees.
Investment Mistake #3:
The $200 billion Vanguard Total Bond Market Index Fund (VBTLX) is so big that it owns over 8,000 bonds and is not a discerning investor. It owns what the index tells it to own. The fund averages a weak 1.63% annual return from 2015-2018.
After financial advisor fees and Vanguard bond fund management fees, the investor averaged an annual return of 0.63%, as the financial advisor earned 1.0% on the client’s assets. From 2015-2018, the financial advisor who prescribed investing in Vanguard Total Bond Market Index Fund made $4,040 compared to the client’s $2,509 return on investment. This is a poor investor outcome no matter how you cut it. It shows how important it is for individual investors to reduce costs and increase investment returns by making direct investments in individual corporate bonds.
