ETF STRATEGIES FOR AN UNCERTAIN MARKET: PART III — USING BOND ETF’S DURING TOUGH TIMES

We’ve now arrived at the third installment of our five-part series on Exchange Traded Fund (ETF) strategies for an uncertain market. This week’s topic is bond ETFs, and specifically how they can be a great way to profit during the toughest of market climates.

Let’s take a little uncomfortable trip down memory lane and look at the 2000-2002 bear market. During that very difficult time period for investors, we had to deal with a bursting of the technology bubble, an economic slowdown and a major terrorist attack. Sure, we managed to fight our way back out, but don’t think this kind of major downturn in stocks can’t happen again.

We’ve already seen a slowdown in the housing market in many areas of the country that has caused a lot of pain, and as the situation gets worse, I think the bursting of the real estate bubble could be as harmful as the bursting of the tech bubble. We also have a very real slowdown in the economy, and there is the omnipresent threat and possibility of another large-scale terrorist attack on U.S. soil. Any one or a combination of these events could cause the market to go into another period of decline similar to 2000-2002. If that happens, you’ve got to be prepared.

So, how should you be investing if the worst-case scenario starts to unfold? Well, one of the best places to be in times of market turmoil is stodgy old bonds. However, you can’t be in just any bonds. I am talking here about the safety and performance of U.S. Treasury bonds.

In fact, during the bear of 2000-2002, both short- and long-term Treasury bonds performed extremely well. Take a look at the performance table of short-term Treasury bonds as measured by the Vanguard Short Term Treasury fund (VFISX).

As you can see, this short-term bond fund had an annualized compounded growth rate of 8.22%, while the major U.S. stock market averages were tanking.

Back in the last bear market there weren’t yet any ETFs tied to the fortunes of short-term Treasury bonds. Fortunately, that has changed. We now have the iShares Lehman 1-3 Year Treasury Bond (SHY). This ETF — with the cute little name of "SHY" — is a great way to play things when times are tough. It’s also a great way for income investors to get better than a 4% yield on their money.

As you can see from the above chart, SHY is currently in an uptrend. The rise is fueled by a flight to quality by investors concerned about a slowdown in the U.S. economy. Now, this uptrend in Treasuries isn’t just relegated to short-term bonds. Take a look at the chart below.

Here we see the trend in long-term Treasury bonds as measured by one of my other favorite bond ETFs, the iShares Lehman 20+ Year Treasury Bond (TLT). Since about mid-May, long-term Treasury bonds have also been in an uptrend. That ascent has accelerated since the beginning of July, and we are now close to seeing long-bonds break above their 200-day moving average.
Long-term Treasury bonds have proven themselves time and time again as stalwart investments during rocky times for stocks, and the most recent bear market is no exception. Take a look at the performance of the Vanguard Long Term Treasury Bond fund (VUSTX) during the most recent bear market.

That’s right, bonds were certainly the place to be when stocks were in the tank, and there is no reason to believe that things will be any different if we see hard times ahead for equities.

Right now we are using short-term bonds via SHY to generate income for subscribers to my High Monthly Income service. We are also on the cusp of moving into long-term bonds via TLT.

If you are an income investor looking for innovative ways to generate big returns while also growing your principal, I invite you to find out more about my High Monthly Income service by clicking on the link below.

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