This is the first episode of “We Eat Dollar Weighted Returns” where the fare is yummy.? Here’s the twist: investors in some bond ETFs have done better than one who bought at the beginning and held.

Now, all of this is history-dependent.? The particular bond funds I chose were among the largest and most well-known bond ETFs — HYG (iShares iBoxx $ High Yield Corporate Bd), JNK (SPDR Barclays Capital High Yield Bond), and TLT (iShares Barclays 20+ Year Treas Bond).

As bond funds go, these are relatively volatile.? TLT buys the longest Treasury bonds, taking interest rate risk.? HYG and JNK buy junk bonds, taking credit risk.

Let’s start with TLT:

Date	Cash Flow	Buy & Hold Return	Cumulated
11/9/2002	248,935,892		1
8/31/2003	-73,889,166	12.31%	1.1231
8/31/2004	439,348,999	3.11%	1.15802841
8/31/2005	73,509,821	6.72%	1.235847919
8/31/2006	442,211,811	6.12%	1.311481812
8/31/2007	165,784,828	3.37%	1.355678749
8/31/2008	-344,202,681	9.54%	1.485010502
8/31/2009	887,336,789	12.30%	1.667666793
8/31/2010	120,142,522	-5.85%	1.570108286
8/31/2011	-452,062,384	4.64%	1.64296131
2/29/2012	-3,038,265,474	32.32%	2.173966406
	IRR	Buy & Hold	Difference
	11.47%	8.42%	3.05%

I analyzed this back in June, saw the anomalous result, an decide to sit on it until I had more time to analyze it.? The way to think about it is that investors reached for yield at a time when stocks were in trouble, and indeed, rates went lower.? The average investor beat buy-and-hold by 3%.

Here are the results for the junk ETFs:

HYG	4/4/2007	2/29/2008	2/28/2009	2/28/2010	2/28/2011	2/29/2012
Distributions		-9,708	-92,708	-358,324	-512,979	-694,209
Net Additions		371,140	1,989,303	1,781,425	3,201,608	5,840,594
Net Assets		352,636	2,089,054	4,611,414	8,257,928	14,258,718
Investment Return		-8,796	-160,176	1,099,260	957,884	854,406
ROA		-4.57%	-13.12%	32.81%	14.89%	7.59%
	4/4/2007	9/16/2007	8/29/2008	8/29/2009	8/29/2010	8/30/2011	2/29/2012
13.40%	IRR	-361,432	-1,896,594	-1,423,100	-2,688,629	-5,146,384	14,258,718
6.04%	Buy-and hold
7.36%	Difference
JNK	11/28/2007	6/30/2008	6/30/2009	6/30/2010	6/30/2011	6/30/2012
Distributions		-9,011	-111,409	-361,521	-616,525	-735,822
Net Additions		404,658	1,481,309	2,180,582	2,366,102	3,928,526
Net Assets		394,346	1,900,709	4,301,252	6,915,538	10,780,535
Investment Return		-1,302	136,463	581,481	864,710	672,292
ROA		-0.61%	11.89%	18.75%	15.42%	7.60%
IRR	11/28/2007	3/14/2008	12/29/2008	12/29/2009	12/29/2010	12/30/2011	6/30/2012
13.22%	IRR	-395,648	-1,369,900	-1,819,061	-1,749,577	-3,192,704	10,780,535
6.49%	Buy-and hold
6.73%	Difference

Both funds were small in advance of the credit crisis, and investors bought into them as yields spiked, and bought even more as income opportunities diminished largely due to the Fed’s low-rate monetary policies. The average investor beat buy-and-hold by 6%+.

Now, the? junk funds were small during default, and grew during the boom, amid unprecedented monetary [policy from the Fed.? (Note: I think that Bernanke will rank below Greenspan in the history books in 210o, and both will be judged to be horrendous failures.? It is better to let things fail, and clear out the bad debt, rather than continue malinvestment.? We need fewer banks, houses, and auto companies, among others.? The government, including the Fed and the GSEs, should not be in the lending business.? Lending should be unusual, and applied mostly to financing short-term assets.? Long-term assets should be financed by equity, or at worst, long-dated debt.

For all three funds, we have the historical accident that the Fed dropped Fed funds rates to near zero, leading to a yield frenzy.? But what happens when defaults spike?? What? happens when no one want to buy long dated Treasuries at anything near current levels?

I think bond investors are more rational than stock investors; they have more rational benchmarks to guide them.? Bond investors have cash flows to analyze against EBITDA (earnings before interest, taxes, depreciation and amortization.? Stock investors wonder at earnings, which are easily gamed.

The real question will come when we have the next credit crisis?? How many holders of HYG or JNK will run then?? Or when inflation starts to run, and the Fed stops buying long Treasury bonds, and even starts to sell them, what will happen to dollar-weighted returns then?

This is an interesting piece for bond assets in a bull market.? We need to see bear market results to truly understand what is going on.

Full disclosure: long TLT for myself and clients