Index Funds Aren't Always the Best Choice

In contrast, the top three countries represented in the active Oppenheimer fund are India, Brazil and Mexico, which together account for 35% of assets. Oppenheimer's biggest holding is Infosys Technologies(INFY), an Indian outsourcing company.

To own high-yield bonds, index investors can use the SPDR Barclays Capital High Yield Bond ETF(JNK), but many investors should pick the Vanguard High Yield Corporate Bond Fund( VWEHX), an actively managed fund. The Vanguard fund charges an expense ratio of only 0.32%, compared to 0.40% for SPDR. Vanguard also invests in higher-quality bonds. The portfolio has an average credit quality of BB, one step below investment grade. SPDR's portfolio has the next lower rating of B.

Higher-quality bonds are less likely to default and should hold up better in market downturns. This occurred in 2008, when Vanguard outperformed, losing 21% while SPDR lost 24%. When low-quality bonds led the rally in 2009, Vanguard still produced better returns, gaining 39%, compared to a return of 38% for SPDR.

The explanation for Vanguard's outperformance could be connected to the way bond benchmarks are structured. In the index, companies with more debt outstanding carry more weight. So if a company issues more debt, an index fund must buy it.

Vanguard's managers are free to stay away from heavily indebted companies. That may help the active fund to outperform.

-- Reported by Stan Luxenberg in New York.

>To order reprints of this article, click here: Reprints