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3 Bond Funds That Can Beat the Pack

NEW YORK ( TheStreet) -- Because of their low expenses, index funds often outdo 60% or more of their actively managed competitors. But in some recent years, Vanguard Total Bond Market Index (VBTLX) has delivered unusually strong performance. In 2008, the fund surpassed 91% of intermediate-term bond competitors, and last year Vanguard topped 88%, according to Morningstar.

Do the results prove once and for all that active managers aren't worth the fees they charge? Hardly. Vanguard's strong showing is due to temporary shifts in the bond markets. Soon enough the pendulum is likely to swing the other direction, and active managers will easily outdo the benchmark.

Like many bond index funds, Vanguard Total Bond tracks a version of the Barclays Capital U.S. Aggregate bond index, the most popular fixed-income benchmark. Seeking to mimic the investment-grade bond markets, the Barclays index holds a mix of Treasuries, corporate bonds and mortgage-backed securities. The benchmark gives each sector roughly the same weight as it has in the markets.

In recent years, the biggest issuer by far has been Uncle Sam. Struggling to finance mounting expenditures, the government has sold a flood of bonds. Now Treasuries account for 35% of the Barclays benchmark, up from 21% in 2002. The big Treasury stake has helped to keep the index funds afloat in recent downturns. During difficult periods in 2008 and 2011, corporate bonds sank as investors worried about defaults. At the same time, Treasury bonds soared because they offered safety. Since many active managers have big stakes in corporate bonds, their funds trailed the Barclays index.

Now many analysts argue that Treasuries have become too expensive. If interest rates rise, Treasuries could fall sharply. That would pull down the Barclays index, enabling most actively managed funds to outdo the benchmark.
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