Are ETFs better for bonds?

Investments in domestic-bond exchange-traded funds (ETFs) are soaring. Between January 2012 and June 2012, investments in such funds were up 60 percent over the same period in 2011, according to mutual-fund research company Lipper. The advantage? Bond ETFs typically have lower expense ratios—fees and other management costs—when compared with bond mutual funds or individual bonds. Because bond yields have been lousy for a long time, every dime that you save can add up over, say, 10–20 years, if your mind is set on investing in stocks. 

Bill Middleton, who is president of Sound Portfolio Advisors and is cool on bonds, says that going the bond ETF route requires homework to learn what bonds comprise the ETF and especially whether the ETF is leveraged—whether the ETF seeks to magnify, or leverage, returns. This also runs the risk of magnifying any losses. The least risky bond ETFs are those that deal in short-term municipal and government bonds, experts say.