When Conventional Wisdom Fails-Janus Capital
When Conventional Wisdom Fails
Underappreciated Risks of Fixed Income’s Flagship Benchmark
For thirty years, the Bloomberg Barclays U.S. Aggregate Bond Index (Agg) has been the most widely used proxy for the U.S. fixed income market. The index represents the investment-grade, U.S. dollar-denominated, fixed-rate taxable bond market. Despite the universal acceptance of the Agg, we believe many investors are largely unaware of its construction flaws. We caution investors seeking broad bond market exposure through exchange traded funds and mutual funds that passively track this benchmark to be mindful of its changing risk profile. Weightings Based Upon Outstanding Debt The index comprises Treasury securities, government-related debt, investment-grade corporate credit, mortgage-backed securities (MBS), asset-backed securities (ABS) and commercial mortgage-backed securities (CMBS). Allocations are determined by levels of outstanding debt, with the largest issuers often representing substantial weightings in the index. As the U.S. government issued more Treasurys after the 2008 financial crisis, their weight in the index increased dramatically from 22% in June 2008 to 36% at the end of 2016. In terms of corporate credit, because allocations are established by issuance, the Agg emphasizes companies with the most highly levered balance sheets. In equity capitalization-weighted indices, a company’s weight increases as it grows its business; however, the weightings in the Agg are commensurate with the amount of leverage a company takes on. In certain circumstances, increased leverage equates to greater credit risk. The index often skews toward capital-intensive, cyclical industries. Businesses with strong and improving fundamentals – which may be poised for ratings upgrades – tend to be underrepresented.
U.S. TREASURYS REPRESENT AN INCREASING PERCENTAGE OF THE AGG