Vanguard strategist: Bogle's bond index barb misses the point

The Vanguard Group Inc. founder and godfather of indexing John Bogle made waves last week when he said that the most popular bond index is broken. But it isn't the index that is broken; it is the way that bond mutual funds use it as a benchmark, said Joel Dickson, a senior investment strategist at Vanguard. “The goal of a benchmark is to represent the available universe of securities for investors,” he said. “The Barclays Aggregate is a good representation of the available securities in the marketplace.” The problem with the benchmark is that it is so heavily weighted with low-yielding government issues that it isn't representative of how people are actually investing, Mr. Bogle said in an interview with Morningstar Inc. “When we look at what U.S. investors do, the government position in the index should be about half of what it is, maybe a third of what is,” he said. “So we've got to fix the index.” The Barclays Capital U.S. Aggregate Index has about 70% of its holdings in government debt, including Treasuries and agency mortgage-backed securities. “That 70% is working at a very low yield, and the other 30% probably much more resembles what the average bond fund is doing out there, the intermediate-term-bond fund, which is the appropriate maturity,” Mr. Bogle said. But Mr. Dickson said bond mutual funds that use the index as their benchmark have been increasingly overweighting corporate bonds to boost yields and returns, making it an unfair comparison. “It's like in the '90s when small-cap managers were using the S&P 500 as a benchmark,” he said. “It's a mismatch of securities.” Investors should be following the lead of bond funds and reducing their allocation to government debt, while increasing credit risk, Mr. Bogle said. “That's a market call,” Mr. Dickson said. “If you want to overweight credit, that's a call that corporate bonds are going to outperform,” he said. “Over the last five years, we've seen Treasuries outperform credit and credit outperform Treasuries at different times.”