Is it time to sack the “Agg?”
The Barclays Capital Aggregate Bond Index, or Agg, has long been considered the best barometer of the U.S. bond market — but it may no longer be relevant, according to some fixed income experts.
The Agg is hopelessly biased and out of touch, argues Dave Haviland, portfolio manager at Needham, Mass.-based Beaumont Capital Partners, because the length of the data set used to determine its composition is too short.
“The Barclays Aggregate Bond Index is too new to get a picture of a full market cycle in bonds,” Haviland says. “It’s an aggregate of sub-indexes from the early 1980s that were back-tested to the 1970s. The Agg can’t help but have a declining interest rate bias throughout its data set — bond yields have generally fallen since 1981, but that isn’t the case today.”
Approximately 35-years ago, interest rates began to decline from historical highs until bottoming out after the global financial crisis. Haviland argues that the Agg missed a significant portion of a more than 50-year interest rate cycle — and the only portion in which interest rates steadily increased.
The historical declining-rate bias plagues the entire financial industry, says Brett Wander, senior vice president and chief investment officer for fixed income at San Francisco-based Charles Schwab.
“Most people working in this industry started right around or after rates were super high in the 1980s,” Wander says. “You had high inflation and 10- and 30-year yields well beyond double digits. Over the past 30 years yields have declined. We’re accustomed to an environment where yields go down over time, generally speaking. It’s been a three decade-plus bull market for yields driven by declining global inflation.”
As Haviland points out, this bias is mostly due to the Agg’s source material: several of its sub-indexes date back to as recently as 1986. As a result, the Agg has only had negative returns in three of the calendar years it has existed.
“It’s not that the index is new, it’s that the historical data associated with its performance is limited,” Wander says. “Critics say that since the advent of the Agg we haven’t seen a significant bear market like we saw in the 1970s, and I think there’s something to that.”
The Agg’s predecessor launched in the 1970s as a market-cap weighted bond index capturing most classes of fixed income at the time: Treasuries, government agency bonds, mortgage-backed securities, investment-grade corporate bonds and some foreign bonds traded within the U.S.