Diversification has served bond investors well

If you were invested in the securities represented by the broadly diversified Barclays Capital U.S. Aggregate Bond Index during the past four years, you avoided some of the volatility experienced by the individual sectors that make up the index.

As the accompanying chart shows, the last four years have seen some fairly wild differences in returns for the four key sectors that make up the U.S. Aggregate Bond Index—Treasuries, government-related securities, corporate securities, and securitized bonds (generally, mortgage-backed and asset-backed securities).

But over those years, the return of the broad-based index (shown by the horizontal line) was relatively stable. In 2008, the performance of Treasuries helped to cushion the effects of the decline of corporate bonds. In 2009, things reversed, and the surge in corporates offset the decline of Treasuries.

"The lesson of the last four years is that broad diversification—whether in equities or in bonds—continues to be a valuable risk-management tool for investors," said Donald G. Bennyhoff, a senior investment analyst with Vanguard Investment Strategy Group. "Investors who tried to sidestep expected problems by forecasting changes in interest rates, inflation, or credit quality found it very hard to execute that strategy profitably."

In fact, Mr. Bennyhoff noted, "if you had allowed headlines to influence your investment choices, you might have avoided corporate bonds entirely prior to their 2009 rally. For most investors in taxable bonds, we believe that the best way to gain exposure to the asset class is by owning the total bond market though a fund or ETF."

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