ETF Talk: Bonding Toward Safety

Tuesday’s huge drop in stocks and big spike higher in bonds should serve as a reminder that when it comes to volatile markets, bonds, not stocks, are often the better choice.

In fact, during periods of economic weakness, or when bearish sentiment on Wall Street seems pervasive, the prudent investor should choose safety ahead of rolling the dice and trying to chase stocks in hopes of a big rebound.

When it’s time to duck for cover from a stock market backfire, U.S. government bond funds just might be the place to stay out of harms way. But some bonds aren’t just used for protection. Some provide the twin benefits of dividend payments and a chance for capital appreciation.

To be sure, bonds and bond ETFs can lose principal. However, this usually occurs when interest rates are going up, and not when the Federal Reserve is trying to keep interest rates steady as it is right now.

The kinds of bond funds that I like include those that invest in the U.S. Treasury market. The full faith and credit of the U.S. government backs these bonds, and an investor cannot do much better than that to ensure the creditworthiness of a debtor.

One bond ETF that I want to bring to your attention is the iShares Lehman 20+ Year Treasury Bond (TLT) fund. I have recommended this ETF in my Successful Investing trading service since Aug. 11. The fund was up nearly 6% at press time for those investors.

This ETF pays interest monthly, and has produced a one-year total return of 13.62% through July 31. Although its performance for 2008 through the end of July was just 1.13%, that handily beats losing money in the stock market. Other pluses are that TLT has a low 0.15% expense ratio, and it avoids the risk of big price drops inherent in equities.

Of course, I still like the big gains that equity ETFs can offer as much as anyone, but I don’t like taking on the concomitant risk – especially in a market environment such as we’re living through right now. Investors really need to be cautious with their money right now, and TLT is great way to put caution on your side while also participating in some solid upside.

As always, if you have any ETF-related questions, please contact me by clicking here. I plan to answer reader questions that are of general interest in a future edition of ETF Talk.