Investing in Bonds: A Look at Two Vanguard ETFs

With ongoing global economic uncertainty and elevated stock valuations, many investors are turning to bonds for diversification. For everyday investors, bond exchange-traded funds (ETFs) can be one of the simplest ways to jump into this asset class.

A popular option is the Vanguard Total Bond Market ETF (BND). It’s known for being cost-effective and straightforward. However, some people might be looking for higher yields, which often come with increased risk. That’s where the Vanguard Emerging Markets Government Bond ETF (VWOB) steps in. Unlike BND, which focuses on USD-denominated bonds, VWOB invests in government bonds from emerging markets around the globe.

Now, it’s worth mentioning that emerging market bonds generally carry more risk compared to U.S. government debt. Yet, over the past year and in previous years, VWOB has outperformed BND.

Let’s explore these two Vanguard bond ETFs to see which might be the better pick for you.

VWOB: A Diverse Selection of Emerging Market Bonds

The Vanguard Emerging Markets Government Bond ETF consists of 902 bonds issued by governments of countries categorized as “emerging markets.” So, with VWOB, you’re still buying government bonds, but from nations like Saudi Arabia, Mexico, Turkey, and Indonesia—none from the U.S.

VWOB comes with an expense ratio of 0.15%, which is higher than BND’s, but its returns have been impressive over the last decade. To break it down: it has yielded an average return of 4.2% over ten years, 2.6% over five years, 9.99% over three years, and 11.6% this past year.

That said, a high return can be coupled with considerable risks. Vanguard rates VWOB at a 3 out of 5 on its risk scale, compared to BND’s 2 out of 5. In emerging countries, some governments are grappling with debt repayment difficulties. These nations can be more vulnerable to economic crises or political upheavals—like the ongoing situation in Iran—which could lead to defaults on their bonds.

About 41% of VWOB’s holdings are rated BB or lower. This suggests these bonds are not investment-grade, indicating a higher risk of default. Investors typically receive better yields for taking on such risks, but there’s no guarantee that these countries will meet their debt obligations.

BND: A Reliable Low-Cost Bond ETF

On the other hand, the Vanguard Total Bond Market ETF offers a wide-ranging fixed income exposure, holding 11,429 bonds in the taxable, investment-grade U.S. dollar market. It realized an average annual return of 1.95% over ten years, 0.4% over five years, 5.1% over three years, and 6.1% in the last year.

BND mainly contains U.S. Treasuries, which make up 69% of the fund. The rest consists of investment-grade corporate bonds with ratings of BBB or higher. While generally regarded as a safer investment, there are still risks involved, like exposure to price drops when interest rates rise, as seen during the recent Fed rate hikes.

Nonetheless, many consider the Vanguard Total Bond Market ETF a reliable option for those looking to add some stability to their portfolios. Its expense ratio is notably low, at just 0.03%.

VWOB vs. BND: A Quick Snapshot

If you’re weighing which bond ETF to select, here’s a quick look at the two:

Ultimately, choosing the right bond ETF is about your own investment style. Personally, I lean towards lower-risk options, so I’d recommend the Vanguard Total Bond Market ETF for those like me who prefer a straightforward and economical way to diversify. However, if you’re open to a bit more risk in exchange for potentially higher returns, VWOB could be worth a look.