What is Bond ETFs and how do they work?

live and learn: Can tell me about Bond ETFs and how they work?
AGG, BND, etc. How do you make money in them? I am 25, should I invest in one? How do they work? Why are they considered safe? Which is better, ETF or Mutual Fund? Is I invest in VTI through Share Builder with $ 4 commissions every month $ 250, is that cheaper than buying Mutual fund? Etc?

Answers and Views:

Answer by Firebolt 1996
Why do you constantly ask these questions here when there are so few experts here? Why don’t you go to a better forum, like the Boglehead forum? They know a lot more about investing in Vanguard funds and ETF’s.

Answer by Paul
“Can tell me about Bond ETFs and how they work?”
An Exchange Traded Fund is a basket (or portfolio, if you prefer) of stocks and/or bonds or other instruments put together by a portfolio manager with the intent of tracking a specific index or commodity. When initially offered, a specific number of shares are issued into the marketplace and those shares trade on an exchange, just like a stock.

A strictly bond ETF will contain a portfolio of bonds designed to do the same thing, i.e. track the ten-year Treasury bond or an international basket of bonds, as an example. Bond ETF’s pay interest payments, usually on a monthly basis but their share price will vary based on the trends of interest rates in general as well as the effects of traders bid and ask.

“AGG, BND, etc. How do you make money in them?”
Two primary ways; By buying them when yields are high and bond prices are low and selling when yields are low and bond prices are high OR by simply holding them and collecting the interest payments. You are free to re-invest those interest payments into new shares, thus allowing your principal to grow.

“Which is better, ETF or Mutual Fund?”
This really depends on your intent. ETF’s have features not available with Mutual Funds, such as the ability to sell them short and to write and buy options on them. You can not do such things with a Mutual Fund. Also, a Mutual Fund is valued once a day at the “NAV” or Net Asset Value of the fund where an ETF is subject, as I said abov, to the pressures of daily and regular trading on an exchange.

“Is I invest in VTI through Share Builder with $ 4 commissions every month $ 250, is that cheaper than buying Mutual fund? Etc?”
With a Mutual Fund, you are able to sign a “Letter of Intent” or take advantage of “Rights of Accumulation” which are agreements that allow you to buy mutual fund shares over time and qualify for a breakpoint (in the case of front loaded funds) discount on commissions.

Bond funds, be they Mutual Funds, Exchange Traded or Closed end, have unique risks and advantages over owning individual bonds. One should thoroughly read the prospectus and completely understand the security before buying.