Although most funds performed dismally last year, a Vanguard fund and its exchange traded fund share class bucked the trend with spectacular results, returning more than 50%.
The Vanguard Extended Duration Treasury Index Fund (VEDTX) and its ETF share class (EDV) from
The Vanguard Group Inc. of Malvern, Pa., finished 2008 up 55.52% and 55.4%, respectively.
The fund's strong performance can be attributed largely to the fact that it invests in bonds with unusually long durations, from 22 to 27 years.
Most ETFs are their own entities, but Vanguard ETFs are unusual in that they are actually a share class of a mutual fund.
The Extended Duration Treasury Index Fund and ETF share class did even better than the leveraged long-term government bond funds against which they compete.
The U.S. Government Plus ProFund (GVPIX), advised by ProFund Advisors LLC of Bethesda, Md., finished last year up 49.55%.
And the Rydex Long Bond 1.2x Strategy Fund (RYGBX), advised by Rydex Investments of Rockville, Md., finished 2008 up 49.92%.
The Barclays U.S. Long Treasury Index was up 24.03%.
FEW INVESTORS BENEFIT
Most investors, however, didn't get the chance to benefit from the Vanguard fund. Total assets in the Vanguard fund and its ETF share class were just $257 million as of Dec. 31.
That is fine with Vanguard, which was cautious not to publicize the fund too much when it was launched in November 2007.
"It's a very risky fund," said Kenneth E. Volpert, a principal and a senior portfolio manager with Vanguard.
The fund seeks to match the performance of the Barclays Treasury STRIPS 20-30 Year Equal Par Bond Index. Treasury STRIPs — zero-coupon U.S. Treasury securities — are bonds that have been "stripped" of their interest payments.
They let investors hold and trade the individual interest and principal components of eligible Treasury notes and bonds as separate securities. The only time an investor receives a payment from STRIPs is at maturity.
The Vanguard fund is very volatile and is intended primarily for institutional investors, Mr. Volpert said.
Because of that, mutual fund investors can only purchase the fund via institutional shares with a minimum investment of $5 million and an expense ratio of 0.11%, or by purchasing institutional shares with a minimum investment of $100 million and an expense ratio of 0.08%.
Anyone, however, can purchase the ETF share class, which comes with an expense ratio of 0.14%.
It is likely that a "goodly number" of retail investors are in the ETF share class of the fund, said Daniel P. Wiener, the Brooklyn, N.Y.-based chief executive and chief investment officer of Adviser Investment Management Inc. of Newton, Mass., which oversees about $1 billion in assets.
Just $42.5 million, however, was in the ETF share class at the end of November, according to Vanguard. But the firm offers it so that sophisticated financial advisers can follow a "liability-driven investing strategy" that lets them better align a portfolio's assets with its liabilities, Mr. Volpert said.
"We don't have a record of who buys ETF shares," he said. "Our hope is people haven't been misusing it as a speculative investment."
If investors have been using the fund to speculate, those not quick enough to get out when Treasuries turn may get badly hurt. That is a prospect that seems more likely this year, according to industry experts.
"We think the Treasury market is a dangerous place to be invested right now," said Milton Ezrati, a partner and senior economic and market strategist for Lord Abbett & Co. LLC in Jersey City, N.J. A shift toward corporate bonds and even high-yield bonds is already beginning, he said.
It still may be too early to invest in the high-yield arena, but it is likely that junk bonds will become more attractive at some point this year, said Mark Balasa, a financial adviser and co-president of Balasa Dinverno & Foltz LLC. The Itasca, Ill.-based firm manages $1.5 billion in assets.
Treasuries, however, are no place for investors right now, Mr. Balasa said. Treasury prices are "out of sight," he said.
That is bad news for the Vanguard Extended Duration Treasury Index Fund.
But it doesn't feel like there is a lot of inflationary pressure right now, Mr. Volpert said.
Without such pressure, the fund isn't likely to hit the skids any time soon, he said.
That said, the fund isn't something an investor would buy based on where they think interest rates are going to go, Mr. Volpert said.
It is only for those sophisticated investors with a long-term view, he said.
E-mail David Hoffman at [email protected].
