An ETF Bonding Experience

There are some things that bond ETFs cannot do. According to data from iShares, the yield to maturity for the 10- to 20-year Treasury fund was 4.87% on Dec. 31, 2006. If you thought that for the next 10 years 4.87% was as good as it will get for that time frame and you bought TLH in that belief, you would not be locking in 4.87%. The fund will always have a 10- to 20-year time horizon. If five years from now the 10- and 20-year Treasuries are yielding 2%, so will TLH. It will not be yielding today's 4.87%. You will not have locked in anything.

Another point along these lines is that dividends paid by fixed-income ETFs vary with almost every payment because interest rates are always changing. This is important because it creates an element of unpredictability in the fixed-income ETFs.

If reversion to the mean has any meaning at all, it makes sense to think that long-dated bonds will yield somewhere in the 6%-7% range at some point in the future (these numbers are not high by historical standards). I personally would want to lock in 7% for 10 years if I could, and TLH will not do that.

So at this point, the issue becomes finding the best tool for your portfolio. A $1 million bond portfolio is probably better off with more individual bonds, especially the portion devoted to Treasury or agency bonds. A $25,000 bond portfolio should probably tilt to investment products, including ETFs.